Prechter Says This is the Big One

August 28, 1998

Exactly sixteen years ago, with the Dow Industrial Average wallowing in the doldrums near 800, Elliott Wave theorist Robert S. Prechter tweaked Wall Street's imagination with his prediction that the most spectacular bull market in history was about to begin. And so it did, right on schedule, with a seismic lurch in mid-August 1982 that forever etched itself into the memory of anyone who was working in the trading pits, as I was. In the decade that followed, with the Dow ratcheting inexorably toward Prechter's once seemingly unattainable target at 3600, his influence and fame became legend. But the Gainesville, Georgia guru's celebrity turned to notoriety after the target was reached in 1993 and he waxed increasingly bearish over the next several years. His 1996 book "At the Crest of the Tidal Wave" forecast global deflation and depression just when the bull market was shifting into high gear. Lately, though, stock averages have faltered alarmingly with some stunning one-day drops, and the economy has begun to slow. Could the bull market finally be over? We asked Prechter, whose answer was unequivocal.

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RA: Are we in a bear market now?

RP: Absolutely. The evidence is so overwhelming that I would be shocked if We haven't seen the all-time high.

RA: What are the signs?

RP: The most important is that, from April to June, secondary stocks Completed a decline of five waves just before the blue chips hit new highs.

RA: That's what technical analysts call a bearish non-confirmation, right?

RP: That's right. When one sector continues in an old trend while another holds back, it is a sign that the old trend may be tiring.

RA: What else?

RP: The last important high occurred on Friday, July 17. July 18th marked the date on which the duration of the advance [in the Standard & Poor 500 Index] from the bear market low in October 1974 precisely matched the number of days from the bear market bottom in 1942 to the bull market top in 1966.

RA: So a major bullish cycle is ending?

RP: Yes, a very major cycle. It's the same size as the one associated with the South Sea Bubble in 1720. When it ended, the average stock dropped 98.5%, if you factor in companies that went out of business. It took 100 years for the stock market to get back to where it was before the South Sea Bubble collapsed.

RA: And this bubble is just as big?

RP: In percentage terms it's actually bigger. Since 1982, the Dow has outstripped both the South Sea Bubble and the Japanese mania that began in 1974.

RA: Does all of that imply we're in for something worse than a run-of-the-mill bear market?

RP: I think so. A.J. Frost and I predicted in 1978 that the Dow would fall back to triple digits when the bull market ended.

RA: How low?

RP: I've given subscribers [to The Elliott Wave Theorist] a specific number, but let's just say that the next few months could be worse than the crash that occurred in the final months of 1929.

RA: That would imply a collapse of more than 50%, right?

RP: That's right. Secondary stocks in particular are likely to get hit the hardest. Stocks that have already fallen from $60 to $17 will be trading at $2, and the ones that have gone from $5 to $70 will be back down to $5.

RA: Why do you expect secondary issues to take the brunt of the initial hit?

RP: Every year for the last four years analysts have recommended loading up on secondaries because they have underperformed the market. But that's not a good argument for buying something. It usually means it will be the sector that gets hurt the worst. I have a 12-year cycle bottom in secondary stocks' relative performance due in the fourth quarter of this year.

RA: So what happens after stocks hit bottom in the first big collapse?

RP: There will be a huge rally, but not to new highs.

RA: And then how long will it take for the Dow to fall to triple digits?

RP: The absolute low should occur sometime around 2003 or 2004. If that works out, the market will begin a rally that could last for two decades, although it will not be nearly as powerful as the one that just ended.

RA: Will there be any political fallout from the market's decline?

RP: Clinton probably won't make it to the end of his second term. Whoever gets elected in 2000 will also be in for trouble.

RA: What can investors do to protect themselves?

RP: They should take their money out of stocks and put it into Treasury Bills. There's also Rydex Ursa fund. In my last newsletter, we were fully invested in Rydex, which is the only place I know of where you can get downside leverage without using margin.

RA: How so?

RP: It's not the same as being short. It's really an inverted long. If the S&P falls by 50% your investment would gain 100%, and if falls by 75% you'll make 200%. But if you're wrong and the S&P doubles in price, the fund would only lose half of its value.

RA: How about defensive issues such as consumer non-durables, which are not affected by recession as severely as some other stocks?

RP: In an average bear market 90% of stocks go down, but this time it will be closer to 99%, so there will be few places to hide in stocks.

RA: What about gold, which has always been viewed as good insurance against economic catastrophe?

RP: I'm a gold bug, and I think it will be the buy of a lifetime sometime in the next few years. But for now, the technical picture is still bearish. My long-term target remains below $200 per ounce.

RA: With the deflation that has been choking Asia's economies now spreading to Latin America and elsewhere, why do economists continue to obsess about the supposed threat of inflation?

RP: People are always fighting the last war. It's normal at this point in the cycle for everyone to miss the change. For deflation to take hold, it has to catch people by surprise, otherwise long cycles of inflation and deflation would not occur.

RA: How is deflation related to the bear market you have predicted.

RP: We've been in a benign, disinflationary phase for the last eighteen years. If the market collapses it will signal that we have crossed over from stability to deflation.

RA: Is there anything else you'd like to say?

RP: Just that it is very upsetting that so many people -- from fund managers to university professors to authors -- have been telling the public that having all their assets in stocks is as safe as having them in a savings account. To anyone who asks, I would encourage them as strongly as possible to protect their assets while they can.

RA: Thanks, Bob.

RP: My pleasure.

In every cubic mile of sea water there is 25 tons of gold