a bear market in time? sort of…

In the middle of a garden-variety bear market–i.e., one orchestrated by the Fed to stop the economy from running too hot–I remember a prominent strategist saying she thought the market had fallen far enough to be already discounting the slowdown in profits but that the signs of recovery were yet to be seen.  So, she said, we were in a bear market in time.

We’re in a different situation today, though:

–most importantly, we don’t know for sure how much damage the coronavirus will do, only that it’s bad and we unfortunately have someone of frightening incompetence at the helm  (think:  the Knicks on steroids) who continues to make the situation worse (while claiming we’re in the playoffs)

–with most of the seasoned investment professionals fired in the aftermath of the financial crisis, and replaced by AI and talking heads, it’s hard to gauge what’s driving day-to-day market moves

–if we assume that the US economy is 70% consumption and that this drops by 20% in the June quarter, then COVID-19 will reduce GDP by 14% for those three months.  This is a far steeper and deeper drop than most of us have ever seen before

–on the other hand, I think it’s reasonable to guess that the worst of the pandemic will be behind us by mid-year and that people released from quarantine will go back to living the same lives they did before they locked themselves up.

 

It seems to me, the key question for  us as investors is how to navigate the next three months.  In a pre-2008 market what would happen would be that in, say, six or eight weeks, companies would be seeing the first signs that the worst was past.  That might come with more foot traffic in stores or the hectic pace of online orders for basic necessities beginning to slow.

Astute analysts would detect these little signs, write reports and savvy portfolio managers reading them would begin to become more aggressive in their portfolio composition and in the prices they were willing to pay for stocks.

 

How the market will play out in today’s world is an open question.  AI seem to act much more dramatically and erratically than humans, but to wait for newsfeeds for stop/go signals.  (My guess is that the bottom for the market ends up lower than history would predict and comes closer to June.  At the same time as the market starts to rise again, it will rotate toward the sectors that have been hurt the worst.  Am I willing to act on this?   –on the first part, no; on the second part, looking at hotels, restaurants…when the time comes, yes)

A wild card:  Mr. Trump now seems to be indicating he will end quarantine earlier than medical experts say is safe.  At the very least, this will likely bring him into conflict with the governors of states, like NY, NJ and CA, who have been leading efforts to fight the pandemic.  At the worst, it will prolong and intensify the virus effects in areas that follow his direction.  Scary.

 

 

 

bear market rallies

bear market rallies

Bear market rallies are counter-trend movements in downtrending markets.

In one sense, they’re analogous to corrections, only occurring in bear markets rather than in uptrending ones (which is why I’m writing about them the day after my post about corrections).

There are several big differences, though.

Corrections tend to be relatively short in their duration and in the extent of their decline.  They also tend to occur frequently and irregularly in any bull market.  Their major cause, as I see it, is overenthusiastic valuation of stocks in an environment where the underlying economic fundamentals are relatively well understood.

Bear market rallies are none of these.  Here’s how/why:

Bear markets themselves are often described as playing out in three phases, in the following order:

hope, where investors are either in denial or radically misunderstand the deteriorating economic fundamentals,

boredom, where investors understand that economies are in recession, (correctly) believe that an upturn is not likely for a considerable period of time and become reconciled to relatively poor times, and

despair, when investors, after waiting in vain for signs that economies are turning up,  give up all hope of ever seeing any improvement.  Their negative emotional state sometimes causes them to sell their stocks across the board and at foolishly low prices.  This sort of final selloff, if one happens, typically marks both the bottom of the market, the lowest point of recession and the beginning of recovery.

Significant bear market rallies typically happen only twice in a bear market.  They mark the transitions between phase one and two, as well as between phase two and three.  They can easily produce a 10% rise in the index and can last for a month or more.  Unlike bull market corrections, bear market rallies are based on a mistaken reading of the economic fundamentals.  They fail as investors work out that the view they have of the economy is too rosy.  In so doing, they usher in the next down phase.

Market tops are notoriously difficult to detect.  So many investors incorrectly regard the first leg down in a bear market as just a big correction, which they diagnose as providing a super-good buying opportunity.  That belief is what starts the first bear market rally.

As the “boredom” phase of the bear market  stretches out, investors try to anticipate the beginning of the next bull phase.  They know that bull markets typically start when sentiment is at its lowest ebb and that the first movement upward tends to be explosive.  So they begin to argue (incorrectly, for a second time) that downside is limited and upside is significant.  They also think they can see early signs of economic recovery.  These sentiments are the tinder that sparks the second bear market rally.  It, too, fails as new economic developments throw cold water on these beliefs.