Back to the Cave? Upswing May Signal End of Bear Market
The latest upswing in the stock market, in which stocks have risen four days straight after rallying throughout most of October, has finally persuaded much of Wall Street that the 1998 bear market--if it was a bear market--is over.
The strength of the rebound, and the fact that it has spread to small stocks as well as blue chips, has turned many market watchers into believers.
“This is the real deal we’ve got going here,” said technical analyst Robert F. Dickey of Dain Rauscher Wessels in Minneapolis.
The Dow Jones industrial average, which rose 114.05 points, or 1.3%, to 8,706.15 on Monday, is up nearly 1,000 points, or 13%, since Oct. 8.
In that same period, the Russell 2,000 small-stock index has risen nearly 25%.
“It’s very healthy to see smaller-capitalization stocks outperforming big caps,” Dickey said. The broader the base of stocks participating in a rally, the better its chances of lasting, he said.
Of course, given the severity of the market’s late-summer plunge, and some serious lingering challenges for stocks, the bearish camp still has its adherents.
For one, third-quarter corporate earnings were generally weak despite a few conspicuous “upside surprises.” Given the tepid earnings growth, many stocks remain overpriced even at levels 20% or more below their peaks for the year, pessimists say.
What’s more, many analysts are suspicious about smaller stocks’ ability to sustain their rally, given that many investors still view the small-stock sector as extremely illiquid--which became painfully clear amid the stocks’ plunge between late April and early October.
Thomas M. Galvin, chief equity strategist at Donaldson, Lufkin & Jenrette, said there is no question that we were--and still may be--in a bear market, the first since 1990. But he argues that there are solid reasons to expect the recovery to continue.
Galvin noted that the average stock in the 6,000-stock universe of companies that trade on the New York Stock Exchange and Nasdaq fell 45% from its 1998 peak--a worse slide than during the 1990 bear market.
If you leave out the 2,000 smallest stocks, the drop was “only” about 35%--still well into bear market territory, he said.
The market’s abysmal performance for most of the year was masked by strength in a few dozen huge blue-chip names that drive the major stock indexes.
Only when the blue-chip Dow plunged 512 points Aug. 31 did the fear in the markets become palpable to many investors--amid Russia’s currency devaluation, continued chaos in Asian markets and fears that Latin America would fall next.
But now, Galvin said, investors logically have come to sense that the worst of the global financial crisis that hammered stocks has passed, as major nations and central banks act to restore confidence. Japan, he noted, reached a long-sought political consensus on solving its banking crisis; the Federal Reserve Board has twice cut interest rates; the Group of Seven industrial powers agreed on a financial rescue plan for Brazil; and the Fed engineered a private bailout of Long-Term Capital Management before the tottering hedge fund could trigger a market disaster.
The stock market recovery is “not going to be V-shaped,” Galvin said, but rather will become more steady going forward--particularly if, as he believes, fears of a 1999 economic recession fade in the months to come.
For their part, market chart watchers, or “technicians,” have been impressed that the Nasdaq composite index, the Standard & Poor’s 500-stock index and the Dow all broke through their 200-day moving averages in the last few days of trading. A moving average is a rolling measure of the market’s trend. When an index is above its moving average it is generally bullish.
For Gregory Nie, technical analyst at Everen Securities in Chicago, the key landmark for the Dow was 8,400--roughly the midpoint between the record high of 9,337 it reached July 17 and the recent closing low of 7,539 that it hit Aug. 31.
“A 50% retracement [of the Dow’s fall] might be viewed as a temporary move within a dominant bear market trend,” Nie said. But with the Dow closing at 8,706.15 on Monday--more than 300 points above the midpoint--”it has come back a little too far to call it an aberration,” he added.
Veteran market analyst Bernie Schaeffer in Cincinnati insisted in a report Monday that there never was a bear market this year, because the S&P; 500 failed to close at a point more than 20% below its peak. Schaeffer sides with those who call the summer downturn a correction in a bull market.
Whatever you call it, the current rally is a selling opportunity, argues Richard Bernstein, chief quantitative strategist at Merrill Lynch. Acknowledging that he is “out of consensus” as a market pessimist, he predicted that the stock market will be lower a year from now.
What’s keeping the market happy today is the expectation of repeated interest rate easings by the Fed, plus moderate corporate earnings growth, Bernstein said.
The problem, he said, is you can’t have both. While the central bank may indeed cut rates again at its Nov. 17 meeting, he said, the other item on the wish list--rising profits--is looking less likely.
Bernstein said that we already are in a profits recession: The S&P; 500 companies had earnings declines in the first two quarters of this year, and possibly in the third. If earnings are positive at all, he added, they will be too low to justify a continued market rally.
As for small stocks, they tend to outperform large-cap stocks in a climate of accelerating earnings. But because earnings aren’t accelerating, Bernstein expects the small-stock rally to fizzle.
Even bulls such as Dain Rauscher’s Dickey acknowledge that there remain liquidity problems in the small-cap market. Poor liquidity--difficulty buying or selling stocks without big price concessions--can be seen in the big jumps that some smaller stocks take on relatively low volume.
Dickey noted that investors in small-cap companies recently have found themselves “chasing” stocks whose prices leap $2 or $3 in a session. A healthier climate would be one in which there is lower volatility even on high-volume days, he said.
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Death of the Bear?
Smaller stocks, technology issues and airlines have been among the leading market sectors as Wall Street has resurged in recent weeks. How key indexes have gained from their lows reached between late August and early October, and how much they’re still down from their 1998 peaks:
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Monday Pctg. change from: Pctg. change from: Index close ’98 high Recent low Nasdaq composite 1,800.91 -10.6% +26.9% S&P; small-cap 162.14 -21.4 +26.0 Dow transports 2,954.85 -19.8 +26.0 Nasdaq 100 1,418.79 -3.2 +25.7 Russell 2,000 386.82 -21.3 +24.7 S&P; mid-cap 342.02 -10.2 +24.0 Wilshire 5,000 10,185.27 -8.3 +18.1 S&P; 500 1,111.60 -6.3 +16.1 Dow industrials 8,706.15 -6.8 +15.5 NYSE composite 551.24 -8.2 +15.5
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Source: Times research
