John Hussman cited the work of Didier Sornette in his weekly letters of April 2013, Increasingly Immediate Impulses to Buy the Dip, and November 2013, A Textbook Pre-Crash Bubble. Sornette derived a log-periodic mathmatical function that approximates well the behavior of bubbles in a wide range of asset classes. The notable feature of the equations is a finite time singularity at which point the bubble collapses. This critical tome point Hussman has pegged as January 17, 2014.
In his latest letter of February 17, 2014, Topping Patterns and the Proper Cause for Optimism, he reviews the bubble hypothesis noting that (our added emphasis):
the “critical point” or “finite time singularity” is not a crash date, but the inflection point from self-reinforcing speculation to fragile instability. Didier Sornette observed this more than a decade ago in Why Stock Markets Crash. Our best estimate of that inflection point remains about January 13. It’s also worth remembering that the “catalysts” associated with sharp market losses have often been fully recognized only after the fact, if at all. As Sornette emphasized, “The collapse is fundamentally due to the unstable position; the instantaneous cause of the crash is secondary.”
Further in his letter he analyses the shape or structure of key market replacements and crashes. We checked the S&P and its current high occurred Jan. 15 at 1850.84. The current reflex rally is approaching this number. It will be interesting to see if it continues to produce a new high or fails and begins a bear market correction.
The importance of this hypothesis – and Hussman is careful to point out that it is only a hypothesis – is that if he is correct, we have a reliable tool for timing bubbles.
Tales from the Downside
SHortly after reading John’s letter we picked this up off of Zero Hedge: “From Self-Reinforcing Speculation To Fragile Instability”. It presents a number of data that are all moving down. In the process the author cites examples from John’s letter.