S&P 500 Closes in Bear Market Territory…
It is official; the S&P 500 closed in bear market territory today, over 20% off its bull market high of 1562.15 set on October 9, 2007. The five year long bull market is finally in the books. The S&P 500 is the last of the major indexes to enter bear market territory as the NASDAQ and Russell 2000 hit this pivotal level in March and the DJIA fell into bear territory earlier this month. Here is the run-down on the previous bull market…
What I find amazing is that the bull market lasted exactly 5 years to the day. The bull market began on Oct. 9, 2002 and ended on the exact same day in 2007. (What I find even more amazing is that nobody has pointed this out yet!) Back in October, I was convinced that the market couldn’t possibly peak on the fifth year anniversary of its beginning, but the significant punishment taken by the financial stocks convinced me to stick with my strategy and thankfully I did as my clients have profited nicely ever since.
With the bear market official, several questions will now become common banter among financial pundits. What’s next for the market? When will the bear market end? How much further do we have to go?
Market technicians and historians will agree that 1170 in the S&P will be a critical support level. The average bear market eliminates half of the previous bull market gains which also just so happens to be a 50% retracement. (Often markets will experience a 50% or 67% retracement.) Furthermore, the current trendline that the market is careening down will intersect 1170 in mid-August which would bring a neat conclusion to this downleg.
But allow me to punch some holes in these theories that perma-bulls will be spewing out as the market approaches 1170. Even though, the average bear market does eliminate half of the previous bull market gains, bear markets are rarely average. They are either mild or more severe than average. The average loss in the last 7 major bear markets in the S&P 500 has been 33.6%. Three of these bears saw losses of less than 28% but two lost in excess of 48%. Only the 1987 bear market was average in terms of losses coming in at 33.2%. Given the historically high valuations of the current market (P/E’s >22), one should not count on this bear market being less severe than average.
I am looking for two different scenarios to play out. Either the market will find support in the 1170 area and consolidate before heading lower or the market will crash though its trendline on its way to much more significant losses. If the bear market behaves in similar fashion as to the 2000 – 2002 bear market, it will find support and consolidate.
However, for quite some time, I have compared the current bear market to those of 1937 and 1973. These were the last two inflationary bear markets (IBMs) which I wrote about in my Market Outlook. The difference between an inflationary and deflationary bear market is the behavior of interest rates. In a deflationary bear market, interest rates fall but in an inflationary bear market, rates rise.
The last two IBMs saw prices crash though support trend lines established by the first leg of the bear and ensuing dead cat bounce (i.e. bear market rally). It would be understandable that this bear will behave like the one in 2000 because it is involving many of the same participants but it is also reasonable to assume that it will act like ’37 and ’73 because it will not get support from lower rates as most bear markets do. Only time will tell which scenario plays out, but regardless, the market’s behavior at 1170 will be critical.
