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Wrong. Wrong. Wrong. The Mideast conflict is not causing the markets to deflate. It’s simply doing what it always does at downturns of high magnitude: It’s marking a coincident reversal from lessening tension and relative harmony during a global advance in social mood to a period of escalating strife in one of the world’s most sensitive geo-political pressure points. Click here to view the chart that shows the history back through the September 1929 stock market peak when a virtually coincident outbreak of hostilities between Jews and Arabs was followed by the Great Crash. After The Elliott Wave Financial Forecast first explained the correlation with this chart back in June 2001, the S&P lost 40%.

And here’s an update of the S&P that shows how the relationship appears to be holding fast through the bottom and countertrend rally of the 2002-2006.  Of course, the rally from 2002 is only a bear market rally, so the relaxation of tensions never returned to the “Good Feelings” of late 1999. The "good feelings" exited almost precisely with the Dow Jones Industrial Average’s all-time high of January 14, 2000. The first sign of a reversal was apparent in a collapse of Syrian-Israeli peace talks later that month. Then in the summer of 2000 ,after the first plunge in the NASDAQ and S&P, Camp David peace talks were strangely stymied. In September, as the NYSE Composite joined in and the first broad phase of the bear market began, all hell broke loose in Gaza. Israel occupied the region at the low, pulled out near the peak last August and is now blasting its way back in. In a nod to the expanding scope of the bear market the Israeli's have also gone into Lebanon. With an eye toward the rally that accompanied the invasion of Iraq in 2004, some pundits declare the hostilities a likely buying opportunity, but we think otherwise. The key to it is the sudden swing from diplomacy, concession and forward leaps to aggression and rigidity. “It was not supposed to be this way,” says the New York Times:
"Just when Israelis had turned their backs on years of military occupation of Lebanon and the Gaza Strip, to international acclaim, they are again fighting in both places with no clear exit strategy.

The sense of shock is not limited to Israel. Lebanon, which last year took on a heroic hue in the West as its “Cedar Revolution” pushed Syrian troops out, thought it was on the verge of moving beyond civil war and offering a model of Middle Eastern democracy. Yet, after Hezbollah guerrillas crossed the border into Israel to kill and kidnap soldiers, Lebanon finds itself again cut off from the world, its airport runways turned into craters, its port blockaded by Israeli warships.

And the Palestinians of Gaza, who thought they finally gained a measure of control over their lives when Israeli troops and settlers left last summer, are living in semi-feudal darkness after Israel bombed its power plant and government offices. Funeral wails fill the air. What is going on?"

It is very simple. Mood is changing course. More precisely, it is continuing the reversal that began in 2000. The Israeli drive into Lebanon is already drawing comparisons to 1982, the final year of the last Cycle degree bear market (in inflation adjusted terms). It’s only an approximation of the potential conflict, as this is a larger degree bear market. But the speed of its application to the current situation is a sure sign that the downside pressure will be no less powerful than the that of the bear market of 1966-1982. For the full EWFF entry from 2001 and more on the relationship between the stock market and the Mideast please see Additional References below.

March 2005, EWFF
A Grand Supercycle at Twilight
As the Dow Industrials, the single-best meter of social mood, pushes to a new high for its bear market rally, the social scene is experiencing a quick burst of the global goodwill and harmony that ruled back in the 1990s. Once again, the aura of a positive mood peak is in the air as formerly combative country leaders have exchanged handshakes. Remember the remarkable cessation of hostilities that took place between Israel and the PLO in the 1990s? The peace ended, on que, with the bull market in 2000 and intensified throughout the bear market decline. But the four-year high in social mood, as measured by the Dow Industrials, has now produced a "formal end to more than four years of fighting."
It's clearly only a countertrend peak, as [the recent truce] floated above a witches brew of global disparagement and hostility. Despite the truce in Israel, bombings continue.

February 2003, EWFF
A sign of the bearish influences at work here is the religious conviction that underlies much of the polarization. Already, the Pope has referred to the violence across the world as a "clash of civilizations that at times seems inevitable." This conflict is most pronounced in the Holy Land, where Israel is fighting a "wide and extensive" battle against a suicidal enemy. The more their adversaries bomb, the more power flows to "right-wing nationalist religious parties." The hardline Likuds just won re-election. Even left wing Israelis are losing the "hopes of reconciliation seemingly so reasonable just a few year ago."  "Liberals have come to countenance the wisdom of walls." A "dovish" Israeli historian now says the conflict can be managed but not solved. He calls the idea of separation "a kind of magic medicine" that "reflects desperation." Only the transition to the entirely new thought patterns of a bear market can explain the shift from a desire for reconciliation to the vision of separation as "magic."

June 2001, EWFF
Global conflict is a by-product of a downturn in social mood. This inescapable tension between nations and distinct social groups is best illustrated by our long-term chart of the "Political Results of Social Sentiment"; (see page 337 of HSB or the June, 2000 issue of The Elliott Wave Financial Forecast), which shows Hitler's rise to power, World War II, the Holocaust and the dropping of two atomic on Japan between the bear market lows of 1932, 1942 and 1949.
Social clashes take myriad forms, but one bellwether rift that has an almost perfect record of erupting into open hostility right at the onset of major downturns is in the Mideast. The chart [at the top of the page] shows that relations between Jews and Arabs in Israel (or Palestine before 1948) have been particularly responsive to the start of important bear markets since 1929 when The Year of the Great Crash says, "All hell had broken loose in Palestine.”
At the end of August, a series of relatively inconsequential disputes concerning the privileges of worship for Jews and Moslems erupted into an orgy of bloodletting"; The violence came a few days before the Dow's final high. If major hostilities are defined as wars or mob violence that result in mass killings, each of the headlines on the chart marks a significant outbreak. All were preceded by periods of easing tension (or at least an absence of bloodshed) and followed by further clashes. The greatest stretch of peaceful cooperation between the two sides is shown by the Era of Good Feelings table at the bottom of the chart. It started on September 13, 1993 with the famous handshake between the Prime Minister of Israel and the Chairman of the Palestine Liberation Organization. Historians said the historic handshake was a symbol of  "a major breakthrough after a century of conflict." The Elliott Wave Theorist identified it as a product of the century-long advance in stock prices that would mark a long-term top rather than a great new era for Palestinian and Israeli relations. The next seven years of bull market yielded productive talks but no lasting peace. As late as January 30 2000, the Houston Chronicle reported that the "tide of history" was moving the "Mideast toward peace."
In reality, however, the tide had already reversed. In July 2000, the same paper would mark the moment by reporting that "Syrian-Israeli peace negotiations have been frozen since mid-January." The exact date was January 11, three days before the Dow's all-time high. By last summer, the anxiety level was clearly rising fast as the Palestinians threatened to declare statehood and another peace conference failed to produce a breakthrough for the first time since 1993. As stocks entered their September-October swoon, Palestinian sections of Israel exploded in a continuous wave of rioting. By December the depth of anger was evidenced by this headline: "As Arafat Embraces Revolt, His Sagging Popularity Rises." Israel responded with the election of hardliner Ariel Sharon. In the first half of May, the situation bordered on open warfare. "Is It War Yet?" asked one headline on May 20. On May 21, the Bush administration criticized Israel for using U.S. supplied warplanes against Palestinians for the first time since the 1967 war, which was a year after the peak of Cycle III. Finally, on May 22, the day of the Dow's high, there was a "glimmer of hope"; as Sharon talked of compromise and ordered Israeli forces "only to return fire if shot at."
Past signals have usually come at and after long-term turns, 1967 was an exception, being between the highs of 1966 and 1968. Given that precedent and the fact that the all-time high in the NASDAQ occurred a year ago. The unfolding crisis in the Mideast does not preclude a new high in the Dow. If the Dow goes to a new high, the conflict may ease briefly, but a historic sell signal has clearly been issued by the open warfare. The Mideast's record as an early register of negative social mood suggests that a major bear market and thus the trend toward global hostility has only just begun.

November 1994, The Elliott Wave Theorist
More Political Inclusion
How does a peak in social mood feel to the leaders of the world's two most dangerous long-time belligerents? Late last month, U.S. and Russian Presidents Clinton and Yeltsin sat down for their third comprehensive meeting. Listen to the euphoric mood of hope, cooperation and fun:
Last Sunday, three months (and just past a Fibonacci 89 days) after signing a non-belligerency pact on July 25, perennial enemies Israel and Jordan sat down to hammer out a peace treaty. Negotiators refused to give up. The atmosphere was exceptional, said a Rabin aide. On Wednesday, the treaty was signed by leaders Yitzhak Rabin and King Hussein. It was quite a different atmosphere from that when Egyptian president Anwar Sadat was gunned down by Muslim militants in 1981 for signing a similar agreement with Israel two years before. These treaties terminate a state of belligerence that has been in force since 1948, at the end of Cycle wave IV (measured in constant dollars). The feelings expressed by those involved mirror the major peak in social mood:
Said Hussein, It is a fresh beginning and a fresh start. This is true, but it marks the beginning of a trend change in the opposite direction. Said Rabin, This is a historically unique moment. That is also true, and historically unique moments occur at major extremes in social mood. In the October issue, EWT said, When fears are realized, it's a bottom in mood; when hopes are realized, it's a top. Said Rabin, The time has now come not merely to dream of a better future, but to realize it. Naturally, this positive impulse, a result of a multi-decade uptrend, is hailed as a cause that will change the future in the same direction that it has already gone. The children born today, said Rabin, will never know war between us. However, the next major low in mood is due within ten years. The mood then will sorely test this promise.

October 1993, The Elliott Wave Theorist
Wars occur during or immediately following bear markets. They result from the negative social mood that the bear market represents, and their size and severity usually reflect the degree of the associated bear market. Opposite phenomena occur at tops. The historic peacemaking handshake between the Prime Minister of Israel and the Chairman of the Palestine Liberation Organization, enemies for decades (and arguably for centuries) on September 14 was an expression of the good feelings typical of a major stock market peak. As for the 'degree' of the event, says USA Today, 'three presidents and eight secretaries of state witnessed the historic pact.'