The Best Kept Secrets About Stages of the Stock Market (Market Cycle)

 Introduction

In trading, there is a well-known proverb that goes, "We cannot direct the wind, but we adjust the sails." A good sailor is someone who can determine the wind's speed and direction. Comparably, knowing the market's phases and how prices fluctuate within them enables a trader to spot fresh possibilities and reduce trading risk. Therefore, we must first comprehend these market stages before moving forward.

A trader will undoubtedly succeed in the market if he can identify each of these phases or stages and adjust his trading technique accordingly. 

Define Market Cycle 

The time interval between the two most recent highs or lows for any given security (stocks, bonds, commodities, currencies, etc.) is referred to as the market cycle. Put simply, it's the stage during which the price of any security fluctuates.

Despite the fact that securities' prices fluctuate often, traders in the market are curious about the typical patterns of price movement. The term "Stages of the Market" refers to these pricing patterns.

Main Stages of a Market Cycle :  

Market cycle go through four main stages, namely -

1. Accumulation Phase
2. Advancing Phase (move up)
3. Distribution Phase
4. Declining Phase (move down )

1. Accumulation Phase -

Each market cycle begins with the accumulation stage. This stage happens when the preceding cycle's declining phase of security is finished and it enters a consolidation phase. People begin to accumulate security at this point when it is trading inside a limited range.

Because it follows a falling trend but precedes an upward trend, this phase is often referred to as the base period.

An important aspect of this stage is the rise in trading volume without corresponding price changes.

Notable Characteristics of Accumulation Phase :

1. It demonstrates how security is being built upon strength.
2. The security begins to trade between the top and lower bands of the consolidation in a clearly defined rage.
3. During the accumulation phase, market players begin to become bullish about securities.
4. The price begins to move in a range that suggests the security's price is about to bottom out.
5. This stage suggests that buyers and sellers are at odds with one another, and by the end of the stage, purchasers gain the upper hand. 

Example : Accumulation Phase

2. Advancing Phase (markup) -

The security moves into the advance stage, which displays continuous momentum in the uptrend, after breaking out of the accumulating stage.

It also demonstrates that the majority of individuals are now optimistic about security.

Notable Characteristics of Advancing Phase :

1. In the long run, as more and more people participate in the security, the strength that was initially observed to be developing into it grows even more.
2. The price of the asset is now rising after emerging from the clearly defined accumulation phase range.
3. A breakout of this kind typically occurs in the presence of substantial volume, indicating that traders who were silent during the accumulation phase are now actively buying the security.
4. During this stage, market participants' confidence in the security grows.
5. During this phase, the security's price begins to make higher highs and higher lows.

Example :  Advancing Phase

3. Distribution Phase -

In this phase, purchasers begin to book profits and the security begins to lose momentum. This indicates that buyers are fleeing the market, and some traders are also observed taking short positions in the security. 

Similar to the accumulation phase, trading in a restricted range is observed for the security during this phase as well. 

Notable Characteristics of Distribution Phase :

1. When people begin to become more circumspect, the strength that was once robust begins to wane.
2. Following the completion of the advance stage, the security begins to trade within a clearly defined range, alternating between the consolidation's upper and lower bands.
3. Investors begin to register profits, and some are even observed taking short bets on the security.
4. The price begins to move inside a band that suggests the security's price is about to peak.
5. This stage suggests that there is conflict between buyers and sellers, and at the end of the stage, sellers finally gain control over buyers. 

Example : Distribution Phase

4. Declining Phase (down move) -

The security moves into the decreasing stage, which indicates that the downturn is still strong, after breaking out of the distribution stage. It demonstrates how pessimistic most people are right now about security.

The majority of investors do not find this to be a favorable period, as it is the final stage of the market cycle.

Because traders who had earlier bought the securities during the accumulation phase start to sell it during this phase, it is also known as the reverse phase.

A defining characteristic of this stage is a significant drop in price accompanied by a rise in trading volume. 

Notable Characteristics of  Declining Phase :

1. As more and more people participate in the security on the short side, the vulnerability that was initially observed growing into the system is worse.
2. Following its breakdown from the clearly defined range of distribution phase, the security's price is currently beginning to decline.
3. A breakdown of this kind typically occurs when volume is strong, indicating that traders who were quiet during the distribution phase are now actively selling the security.
4. During this period, market participants start to lose more and more faith in security.
5. During this phase, the security's price begins to make lower highs and lower lows. 

Example : Declining Phase

How Long Is a Market Cycle?

Market cycles typically span six to twelve months on average. However, the duration of a market cycle can be significantly impacted by fiscal policy in both the US and global markets. The usual range is 6 to 12, but a significant reduction in interest rates by the Federal Reserve, for instance, might extend an upward market trend for several years.

The Bottom Line

Although each cycle has an average duration, markets typically follow a single cycle that can be extended or contracted depending on fiscal and political policies. Short-term mini-cycles are common in the financial markets, but longer-term market cycles typically last several months or years.

It has been noted that traders typically exhibit particular behaviors in the market at particular periods, and the key stages of the market can be used to record these patterns. Thus, it is possible to determine how the bulk of market participants are trading securities by looking at the market's structure.