Evidence Suggests Stocks Are On Path To a Bear Market
While a near-term bounce is possible, investors should position for more weakness ahead as deterioration has been significant but not yet extreme
As indexes pull back from their peaks, we tend to label the drawdowns based on their intensity. When an index is 10% off its high, it is “officially” in a “correction.” Once it is 20% or more below a peak, the “bear market” label gets used. The problem is that these “correction” and “bear market” designations serve only to confirm what has been experienced. They become study-able periods for historians, but there is little utility in telling investors that they should have reduced risk exposure a few weeks or months ago. Investors don’t need confirmation, they need real-time indicators that provide evidence of bull market and bear market behavior.
Recent weeks have seen an uptick in both internal weakness in the market (days with more new lows than new highs) and headline noise (single day swings of 1% or more by the S&P 500). Neither of these is consistent with an ongoing bull market. The absence of quiet strength is strong evidence that we are no longer seeing bull market behavior.
To clarify, we aren’t just seeing the persistence of weakness, we are seeing intensification of weakness. New lows outnumbered new highs last week by the widest margin since last April.
While the breadth indicators are consistent with weakness, we have seen the VIX cross above the threshold that signals that some degree of Fear has entered the market. This may offer near-term relief for stocks, but there is little evidence that a sustainable low is in place.
Our Bull Market Behavior Checklist continues to show weakness among the breadth indicators but persistent strength among the trend indicators on this list.
A broader look at equity market trends shows that weakness is starting to emerge. The long-term trend for the Dow Industrials turned lower last week, and this week the trends for the S&P 500, the equal-weight S&P 500, and the NASDAQ 100 all followed suit by moving from rising to falling. Smaller-cap and global equity trends have proven more resilient.
The clock may be ticking, however, as fewer and fewer ACWI markets are being able to hold above their 50-day or 200-day averages.
Deterioration in global trends is broad based across developed and emerging markets as well as by region.
Poor breadth and deteriorating trends are having a predictable impact on investor sentiment. While the VIX has crossed an important threshold that opens the door to a bounce, investor sentiment overall has crossed an important threshold in the opposite direction and argues that intermediate term risks remain to the downside. Bear markets first get investors underwater and then they drown them. From both a breadth and sentiment perspective we are well shy of the extreme readings that typically accompany sustainable lows. The industry will encourage investors to stay invested up to and beyond their breaking point. Managing risk by moving to the sidelines (or at least reducing equity exposure) when conditions deteriorate should be a part of any data-driven asset allocation plan.
Our relative strength rankings can help keep investors in harmony with current trends. From a sector perspective, the S&P 500 is weighed down by weakness in the sectors that weigh most heavily on the index (we discussed this a few weeks back). While pockets of absolute strength still exist, they are unlikely to be able to keep the index afloat.
Thanks for reading. Blessings on your Holy Week as you prepare for the joy of Easter morning. -Willie