Above is a picture of the S&P 500 or a proxy for “The Stock Market.” Before I get into the main message of this blog post, I think it is important to understand that there are different types of bear markets. It is also important to know that “corrections” are different than “bear markets.” The market action we are experiencing is definitely not a correction, but most certainly a bear market. “Corrections” in the stock market tend to short and swift and tend to look like the letter “V” as the price bounces and quickly moves to new high ground. “Bear markets” are more painful as they take longer to correct and the price action tends to look similar to the letter “H” or “W.
Bear markets will correct either through time, as it did in 2015-2016, or in price decline as we are experiencing now. It is often coined that bear markets will either scare you out or wear you out. Two years of chop is just about the right amount of time for investors to throw in the towel and look for “better” opportunities for their money. Also a 30% decline in price is just about the right decline to scare investors out of their money. While these are just guidelines, this could serve as a useful road map for how this plays out. It is also important to keep in mind that anything, and I do mean anything can happen in the market. It is critical that we remain objective to the data. As the facts change, we need to change.
If we look at the most recent price movements, we need to think about what would it take to really wash as many investors out of the market as possible? But before the washout, it is key to understand that market has to suck in as much new money back into the market. To make that happen I would expect that we would see a rally up to 2650 in the S&P 500 (which is the very first arrow). That would usher in a new crowd of bull money. By this point our trend indicator would have drifted down to reject that price action like my 14 year old son trying to shoot hoops against Kevin Durant! Ugly, From here, the path of least resistance will be to re-test the lows. This will give us our “H” or “W” pattern. It is quite common for the re-test to go a bit below the prior low - you know - just to pour a bit more salt in that open wound. So from a rally up to 2650 (and KD standing there to reject us) we should expect a re-test of 2361 or 2182. This is most likely the base case at this point. This would be, give or take, a 25% correction. This is pretty typical. Now, if the stock market gnomes really want to send a message, and really rattle some cages, 1892 on the S&P 500 would be interesting. 1892 on the S&P would accomplish the “scare out.” Investors would be freaking out. 1892 would be a 35% decline from the top. This is definitely a possibility, but not highly probable at this point. This is not my base-case, but again keep in mind that selling will beget more selling and it is best to just step aside to see where price finally settles in. It is all ego at this point.
The final question is over what time frame are we talking about? Because it is very unlikely this is a precursor to a recession, it should be short lived. (Gasping for air) GFA: But Paul, everyone on TV is saying that a recession is coming. Don’t you look at Oil? ME: Yes. GFA: What about Copper? ME: Yup. GFA: They are all signalling a global slowdown! The end of time is upon us! Hold me. ME: Well a slowdown is much different than a recession. And I also actively watch, ISM figures, employment stats, the yield curve, credit spreads, restaurant data, retail figures, and on and on. I can definitely see some softening in the data, but there is a lot of holes of golf left to be played. Hacking your way out of a sand trap is much different than sticking your arm in the pond to retrieve your ball only to be eaten by an alligator! Now where was I again? Oh yes, time frame. Cycle dates point to March-ish. This would be about a 6 month correction, which seems about normal. Like anything, we will just have to see how this plays out. I am hopeful that the bulk of the price decline is behind us, but history does not support this.
The bigger picture is very much intact. It would not surprise me to see at some point in 2019 take out the 2018 highs. The US equity market is still definitely in a secular bull market. This very well could last another 10 years. So, let’s review the landscape now and for the foreseeable future:
Global Geopolitical and civil unrest will drive capital to the US seeking safety.
As the global decline in socialism continues, capital moves away from governments into private capital.
The normalization of interest rate (read:mean-reversion is a bitch sometimes) will severely penalize home values and fixed income.
Continued strength in the US dollar because of 1,2 and 3 above, will create the merry-go-round from hell for US dollar denominated debt and force more and more capital to the US.
Tremendous advancement in medical tech and digital health are just beginning.
Market moves away from previous cycle leaders - FAANG stocks - into new growth names.
I guess I should close talking about the title of this post; “Why” Doesn’t Matter In A Bear Market. It was pounded in my head and my brokerage statement many years ago, that “why” is really not an important question to be asking in order to make sense of something that is too complex to make sense of. “Why” is a question that comes from ones ego. The successful investors that I’ve learned from do not operate from the ego. They operate free from ego and stay in a constant state of observation. “Why” is the chatter from the talking heads on TV. They look good and come up with very reasonable sounding explanations. But, does it really matter? It is only after the fact that the “why’ reveals itself. By then it is too late. Staying in a place of observation and open to the possibilities is where I’ve found success. Going with the path of least resistance, ahem, the trend, has served me well. The trend is down for now, but i think we have laid out a pretty good road map in the short-term. S&P 500 levels to keep in mind 2650, 2361, 2182, and 1892. Look for a rally high into mid-January and a re-test of the lows into March.
Cheers,
P. Franklin, Jr.
All opinions and estimates included in this communication constitute the author’s judgment as of the date of this report and are subject to change without notice. This communication is for informational purposes only. It is not intended as an offer or solicitation with respect to the purchase or sale of any security. This information is subject to change at any time, based on market and other conditions. Any forward looking statements are just opinions – not a statement of fact.
Investing may involve risk including loss of principal. Investment returns, particularly over shorter time periods are highly dependent on trends in the various investment markets. Past performance does not guarantee future results.