Everything you need to know about market cycles

What are market cycles?

A market cycle refers to trends in price action experienced by financial markets that generally repeat over time. For example, market cycles for stocks are measured by the two most recent highs or lows of a benchmark like the S&P 500.

Market cycles can be driven by recurring economic conditions, as in the case of some commodities and non-cyclical stocks, as well as human behaviour by market participants.

Market cycles are comprised of several phases and events—the most common being market bubbles and crashes, but unlike these volatile and dangerous phases, there are more stable periods throughout the rest of the cycle.

How market cycles work

Market cycles work by moving in four phases, which traders can use to identify current trends and predict upcoming ones.

Like all cycles in the natural world, market cycles consist of periods of growth and decline. The tricky part about cycles is recognising when one phase is primed to end and another to begin, especially because these cycles can last anywhere from a few months to years.

Market cycles are essentially caused by price action oscillating above and below the equilibrium price—defined as the price supply balances demand. The equilibrium price for an asset is constantly changing, and market participants will buy and sell an asset to profit from any difference they determine between an asset’s current price and its equilibrium.

You can think of oscillating market cycles as a pendulum swinging above and below the equilibrium price, pushed by the momentum of traders attempting to profit off of the swings. A market cycle describes the overarching trends of market sentiment as the momentum rises and falls.

Market cycle phases:

Market cycles are characterised by four phases, beginning at the start of a bull phase and moving through the end of a bear phase. Let’s dive into all four phases below.

Accumulation phase

The accumulation phase begins as early adopters re-enter a bottomed-out market. This is when early adopters will re-enter the market. The accumulation phase marks the end of a bear phase as momentum begins to build.

Depending on the market, the accumulation phase can be marked by rising company profits for shares trading, general demand increase for a country’s currency on the forex market or greater demand for a commodity.

Mark-up phase

The mark-up phase is the period when momentum builds from the initial interest in the accumulation phase. In this phase, the market has stabilised and begins to trend upwards making higher lows and higher highs. Other names for the accumulation and markup phase include the expansionary period and bull market.

During a mark-up phase, you’ll likely see a mixed reaction from analysts and the wider media on whether the worst is over for the market. Some indicators of a downward market, like unemployment in forex, may continue to rise, but greed begins to overtake fear as traders jump back in.

The mark-up phase ends when the majority consensus supports a positive outlook on the asset. At this point, everyone holds bullish positions and the market swings above the equilibrium price.

Distribution phase

The distribution phase begins once momentum stalls as early buyers who likely entered during the accumulation phase begin to close their positions. To be clear, there is no clear sentiment on whether or not the market is overvalued.

Typically, an asset's price will range-trade during the distribution phase and may even briefly climb higher before ultimately reversing. Patterns a technical analysis might find during a distribution phase include double tops, triple tops and head and shoulders.

During the distribution phase, the market is extremely reactive to news. A geopolitical event or negative economic indicators can cause the asset’s price to collapse.

Risk management tools like a stop loss or trailing stop can help you avoid outsized losses during the distribution phase. As the price begins to fall, these order types automatically close your position to prevent you from staying open in hopes of an unlikely positive reversal. Learn more about these order types and other risk management in our trading academy.

Mark-down phase

The mark-down phase, also known as the downtrend or deflation phase, is the worst period to be caught still holding a long position. It’s in this phase that the asset purges excessive gains above the equilibrium price.

Once it becomes clear the bull market is over, traders still holding long positions succumb to panic selling, continuing to push the price lower beyond the equilibrium price. There may be several small rallies as buyers look to find an in amongst traders booking losses, but the price typically continues to fall back as sellers outweigh buyers.

Eventually, the market will bottom out, where everyone left still holding a position is resolute against selling. This phase can last months or even years before a new accumulation phase begins. Often it takes breaking news or a market event for renewed interest to accrue in a bottomed-out market.

Market cycle timing

It can be difficult to time a market cycle, or even just to identify where a market currently sits. It’s best to avoid entering a market because you read positive coverage stating a bull run is occurring or other traders you know are all holding long positions. Entering at this time might see you catch the end of a distribution phase just in time to lose your money in a mark-down phase.

New traders should study a market before opening a trade to learn its influences along with which indicators and analysis best suit their trading style. You can practise all of this in a risk-free environment when you open a demo account with City Index. Demo accounts give you access to hundreds of markets with ample money to practice various strategies and asset classes.

City Index also hosts regular webinars where analysts cover live markets, disperse trading tips, and take your questions. Here you can learn about ongoing market cycles and current influences on assets like forex and stocks. View the schedule of upcoming webinars here.

How to find market cycles

The only guaranteed way to identify a market cycle is in retrospect. A common measurement for the full length of a cycle is the price action between two highs or two lows in price. The longer your time frame, the better chance you’ll have at finding a market cycle. These cycles occur at minimum over several months, and they can last for years. 

When identifying a market cycle, remember that trends and swings are not cycles themselves. These oscillations occur in bear and bull phases as prices rarely move in a straight line. For a real market cycle, price changes need to have a psychological impact on traders and other market players. If a downswing doesn’t end with a large sell-off where the asset’s price bottoms out for an extended period, it may not be the end of a market cycle.

FAQS:

Presidential Cycle

The Presidential Cycle refers to a theory that the performance of US equities follows a pattern along the US presidential term. According to the Presidential cycle theory, US stock markets perform weakest in the first year following the election, then rise during the next two years to peak during the third year, before falling in the fourth and final year of the presidential term. Once a new President is elected, the cycle begins anew.

How long does a market cycle last?

A market cycle can last anywhere from weeks to years. The more speculative an asset is, the quicker its market cycle can run. Markets like stocks and cryptocurrencies react quickly to speculation and economic news, while slower-moving markets like forex and commodities typically cycle over several years.

Do commodities markets experience cycles?

Yes, market cycles occur for all assets, including commodities. Cycles in commodities markets are some of the longest-lasting, taking place over years and even decades. This is because commodity prices are strongly affected by larger economic movements like recessions and expansionary periods that often play out over the years.

In addition, changes in supply and demand for a commodity take much longer to occur than in markets like stocks and forex. This is because supply chains and current inventory levels slow down the speed at which economic factors affect supply and demand.