In his book Tides and the Affairs of Men (1939), Edgar Lawrence Smith presented the notion of a ten-year stock market cycle. Smith’s theory resulted from combining two other theories, Wesley Mitchell’s 40-month cycle theory and the theory of seasonality. Combining these two periods, Smith theorized that there must be a ten-year, or 120-month, cycle. This would result from ten 12-month, annual cycles and three 40-month cycles coinciding every 10 years.
When Smith investigated prices more closely, he found that indeed there appeared to be a price pattern in the stock market that had similar characteristics every ten years. This pattern has since been called the “decennial pattern.”
The decennial pattern theory states that years ending in 3, 7, and 10 (and sometimes 6) are often down years. Years ending in 5, 8 and most of 9 are advancing years. Smith did not follow the normal calendar year beginning in January but found that counting the beginning of a year in October was more reliable. he also hypothesized that occasionally a nine-year or 11-year cycle overlaid the decennial cycle. He attempted to find the reason behind the decennial pattern and looked at sunspots and solar radiation, average rainfall, barometric pressure, and other weather-causing conditions, believing that weather patterns were the most likely cause of change in human psychology. It was then well accepted that weather had an affect on health and disease, and thus on optimism and pessimism, and observation first mentioned by Hippocrates.
The decennial pattern continues to have an excellent history. For example, the fifth-year advance has been observed well over 100 years never to have failed 12 out of 12 times1. One problem with the theory is that a large enough sample is not possible yet, and that such projections could be the result of chance. It is something to keep in the back of an investor’s mind but not something to use alone to commit funds to the stock market.
1. There is some question about whether the 2005 advanced. Some market indexes were up slightly, and some were down. most foreign stock markets advanced.
Source: Kirkpatrick, Charles and Dahlquist, Julie. Technical Analysis: The Complete resource for Financial Market Technicians; (c) 2007.