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European Stocks: "Hope And Optimism Prevail"
These are not the typical psychological conditions for a stock market bottom.
Conventional economists have no shortage of villains to blame the financial crisis on – but if you ask us at EWI, the culprits are as old as investing itself: fear and greed.
Fear and greed move investors; fear and greed move the markets, too. As long as greed prevails, investors brush aside economic, political and other "fundamental" problems and push prices higher and higher. But when fear takes over, everyone runs for the exits, pointing fingers at the problems that have been in plain view for a while.
Just think back to a couple of years ago, when real estate prices were breaking records. It was clear to some observers that homeowners' optimism about the ever-growing values of their "investments" was unfounded – but did it stop anyone from getting a second mortgage?
The point is that whether you are in a financial bubble or a panic, rational thinking goes out the window. A herding mentality driven by fear or greed takes over. This curious behavioral phenomenon is the reason why we have bubbles and depressions. And it is precisely what the Elliott Wave Principle describes and studies: Wave patterns in market charts are nothing but fear and greed unfolding right before your eyes.
Fear took the upper hand in the summer of 2007. And don't believe it when they say that, "no one could see it coming." In the August 2007 issue of Elliott Wave International's monthly European Financial Forecast, editor Tom Denham warned subscribers that,
"European stock indexes are especially vulnerable now that they have completed five waves up."
What Tom was referring to was a basic Elliott wave concept that after a five-wave rally always comes a three-wave correction, as this idealized diagram shows:
European stocks developed their "five waves up" between March 2003 and July 2007. Here is what it looked like in real life in the charts of Germany's DAX stock index at the time:
"Thanks to the lingering memories of a strong rally," continued the August 2007 European Financial Forecast, "most people find it difficult to imagine markets falling sharply."
But fall they did, just as the Elliott wave pattern suggested. The only question that remains is, where is the bottom? Well, on that, the brand new, February 2009 European Financial Forecast makes an interesting point: "Despite the worldwide financial catastrophe in 2008, it is not worry and fear, but hope and optimism that currently prevail." Conclusion? These are not the typical psychological conditions for a stock market bottom.
Find out where European bourses are likely headed in the next few months now – in the just-published February European Financial Forecast (risk-free). Click here for details.