Market Cycles

The understanding of market cycles is the most important and possibly one of the best skills needed to make smart investment choices.  All markets are cyclical in some way.  As we continue to learn about these cycles you will need to know what the difference is between a bear market and a bull market.   

A bear market is a market trend where the prices of stocks are falling and many investors become big losers.  People begin to sell their shares to try and preserve any gains they have made.  This massive selling only drives the market lower and lower until it hits the bottom of the cycle. 

A bull market is a market trend where the prices of stocks are rising or are expected to be making gains in the near future.  This sense of a rising market gives investors confidence to continue to invest.  During a bull market investors increase their share amounts and hope that the top of the cycle is not near.

These two types of market trends are used immensely in the financial world and help to present market cycles. Market cycles are also divided into two different lengths of time.  Any cycle that lasts 2-3 years is considered a cyclical market.  A cycle that lasts 10-20 years is considered a secular market.  Beyond theses types of cycles, there are much smaller market cycles that can last a few months or even a few days.

  

Above is a chart that graphs how the NASDAQ has performed from mid-2006 to late-2012.  To decide where a cycle ends and begins is very tricky as you can tell by looking at this specific chart.  In the beginning of this chart it gradually increases, then suddenly drops during 2008 when we hit a recession.  The market then begins to pick itself back up and has slowly increased to the value it is today.  You could possibly say that from 2009 to 2012 has been a bull market, but with large drops seen through that era its very unlikely to be considered a bull market. 

Through graphical charts investors try to predict when these market cycles will take place.  Using models and statistical software, analysts are getting much better at providing accurate predictions for market trends.  Below is a graph from StockCharts.com that shows how the Dow Jones Industrial Average has performed in the last 50 years. 

Using this graph you can notice that from 1960 to about 1982 there is a secular bear market.  Prices tend to move left to right during these cycles and do not increase in price substantially.  This cycle ends in 1982 when you begin to see a bull market with great investor confidence and huge gains.  From 1982 to about 2000 there is a secular bull market present as you can see easily by looking at the graph above.  There does lie one small divot during that period which was in the year 1987.  In 1987 we did have a short lasting depression, but by looking at the chart you can tell that it did not effect the secular bull market cycle.  

In the same graph above, from 2000 to 2012 the market seems to be in secular bear market with prices not increasing substantially. The largest dip during this time was in 2008 when the housing market declined and government policies failed.  

Now the question lies in the hands of all economists and financial analysts, "When will this cycle end?"  To be able to accurately determine the point when the market will become bullish again can give you great insight on how and when to invest.  Remember this: Buy at Bear, Sell in Bull. 

Stock Markets

A stock market is a network that exists for the issuance and trading of company shares and derivatives (contract that has specific conditions) at a certain price agreed between two parties.  These shares and derivatives, also known as securities, are listed on a stock exchange unless they are only being traded privately.  The main purpose for such a network between companies is to give them access to capital and investors in exchange for a small piece of ownership in the company.  This market has become a vital part of the global economy and is used by many to predict whether a country is growing or falling into a recession.  

The next step down from this global network, called the stock market, is where these securities are traded. A stock exchange is important to provide a place for fair and orderly trading, while giving correct price information for all the securities being traded within that exchange.  Stock exchanges in their early years were always physical locations, it wasn't until 1971 when the NASDAQ exchange became the world's first electronic stock market.  As technology enhances, more and more trading is being conducted electronically without requiring all parties to be present on the exchange floor.  To be included on the stock exchange as a company you must adhere to the many regulations and requirements. 

Notable Stock Exchanges:

New York Stock Exchange (NYSE) - The world's largest stock exchange

Euronext - A European electronic stock exchange based in Amsterdam, Netherlands

NASDAQ - The world's second largest stock exchange, also based in New York City, NY

Tokyo Stock Exchange - The world's third largest stock exchange

There are approximately 112 stock exchanges that exist in the world today and a based in many different countries. 

Next, I will give a better understanding of what exactly is being traded in the stock exchanges worldwide.  A stock (also known as "share" or "equity") is a type of security that represents a claim on a small part of a specific corporation's assets and earnings that can be owned by an individual through the stock market.  Stocks are divided into two main types: common and preferred stock.  A common stock usually signifies that the owner is granted a single vote for each stock owned at a shareholder' meeting and is to receive dividends.  In a preferred stock, you usually don't have voting rights, but you have a better chance at claiming dividends than a common stock.  Both types still insist that the individual owns a piece of that corporation.  Historically, stocks have had larger capital gains than most other investments available. 

The process of buying stock is not as simple as most might think, this is due to the complex system and the regulatory policies set in place.  In some cases, companies offer individuals direct stock purchase plans (DSPPs) that provide an investment plan directly by the company.  This structure would call for a monthly investment in return for stock in their company.  Without such plans an individual would have to use a broker to conduct their purchase of a stock.  Many investors now used what's called an online discount broker, this is a company that allows individuals to setup an account online and pay a fee for the purchase of stocks.  This way of investing in stocks has become much more popular due to the considerably higher fees charged by a full service broker.  I do advise that you do the proper research and educate yourself before any purchases of stock are made.