Spotting a bear market bottom is easy to do. Merely look at a daily price
graph one or two years after the final bottom occurs and pick the low point.
But spotting a bottom in "real time" is much more difficult. And forecasting
the shape and magnitude of the eventual recovery is just as challenging.
Even so, history provides some useful clues.
There were six "weak" bull markets since the Great Depression in which
prices rose by no more than by 60 per cent. Each bear market that followed
was also weak with price drops under 27 per cent.
On the other hand, powerful bull markets during this period were virtually
always followed by bear market declines greater than 27 per cent.
Using this rule of thumb, the bull market that began in late-1998 gained
just 50 per cent before peaking on the final trading day of 1999, a mild
rally in historic terms. If the past is any guide, the final low for the
bear market that follows should not be worse than 27 per cent below the
peak. This suggests a bottom no lower than 5059 on the FTSE 100 index.
Viewed from this perspective, the closing price of 5314 on March 22 might be
the final bottom. If not, history suggests the ultimate low will not be much
lower.
And what will the shape of the final recovery look like? Recent forecasts
have included U-shapes, V-shapes, Ws and square roots and some more exotic
patterns as well.
Take these forecasts with a grain of salt. Analysts try to sound clever when
describing how a recovery will unfold and occasionally get a bit carried
away.
Fortunately, history provides some clear-cut guidelines about the shape and
recovery speed of the typical UK bear market bottom.
Here in the UK, three kinds of market bottoms frequently appear: V-shapes,
"slow-and-steady risers" and plateaus.
Throughout the 20th century, V-bottoms were always characterised by very
sharp drops at the tail-end of a bear market triggered by serious shocks to
the financial system. The first month of the bull run that followed was
equally exciting, with rallies of 13 per cent or more.
A good example occurred at the end of the bear market in 1972-74. By October
1974, key markets like Tokyo and New York were beginning to recover but
London was still contending with recession, political crisis and a fragile
financial system. Prices fell 16 per cent in the final sell-off after
falling massively in the preceding two years.
A new bull market finally began at the year-end once signs of an economic
recovery began to appear. Shares rose more than 50 per cent in January 1975.
A more recent example occurred in 1998 when investors took fright from three
sudden shocks involving Asia, Russia and the collapse of a large hedge fund.
Prices dropped 25 per cent in less than three months.
The recovery was equally exciting as repeated interest rate cuts convinced
investors that the monetary authorities were intent on keeping Western
economies on an even keel. Shares rose 17 per cent in one month and regained
all the lost ground in just six months.
Notice the common links: severe economic or political crises and large falls
followed by heavy buying once investors realised each problem was being
resolved.
Based upon these characteristics, available evidence suggests March 22 was
not part of a V-shaped bottom. The sudden 10 per cent drop in February/March
lacked the size and raw fear associated with other V-bottoms. Also, the
rally in the month that followed March 22 was far too weak.
This leaves us with three possibilities: (1) we are in a "slow and steady"
recovery, (2) a long-term plateau bottom that will bounce around the
mid-5000 level on the FTSE-100 for many months or (3) a bear market that has
yet to reach its low.
The plain vanilla truth is that despite the headlines, we still don't know
how things will turn out. No one does. But here are some historical facts to
help navigate the uncertainty of the next few months.
Leisurely or "slow and steady" recovery rallies are typically associated
with weak economic conditions. Recession fears are often in the news during
the final stage of each preceding bear market, as they have been for the
last few months, but investors eventually learn the economy was growing at a
slow, 1-2 per cent rate during those troubling times.
So far, recent economic forecasts seem to fit the "slow and steady" recovery
scenario. As long as the UK economy does not drift into recession, it seems
like the most likely prospect for the new bull run.
History provides us with one other important landmark to help us to spot a
"slow and steady" recovery.
Throughout the 20th century, each and every Slow and Steady recovery
featured a rally that drove prices up by at least 9.5 per cent above the
bear market low two months (44 trading days) into a new bull market. If
prices were lower at the 44-day mark, it proved to be a clear signal that
either (1) a long-term base-building phase - also known as a plateau
bottom - was in progress or (2) the preceding bear market bottom had not yet
been reached.
As of Monday, May 21, we are 39 trading days into the rally that began on
March 22. The FTSE-All Shares index stands 11.6 per cent above the March 22
low. The 44th trading day since March 22 will occur on Tuesday May 29. Watch
carefully.
If prices slip between now and next Tuesday, history is signaling high odds
either that we are in a plateau bottom or that the final bear market low has
not yet occurred. Either way, it pays to hold off taking any long-term
positions. The odds are high that a lower entry price will be on offer in
the weeks and months ahead.
History teaches that plateaus generally run for at least four months.
Short-term rallies may occur but prices end the period in the same general
area in which they started.
graph one or two years after the final bottom occurs and pick the low point.
But spotting a bottom in "real time" is much more difficult. And forecasting
the shape and magnitude of the eventual recovery is just as challenging.
Even so, history provides some useful clues.
There were six "weak" bull markets since the Great Depression in which
prices rose by no more than by 60 per cent. Each bear market that followed
was also weak with price drops under 27 per cent.
On the other hand, powerful bull markets during this period were virtually
always followed by bear market declines greater than 27 per cent.
Using this rule of thumb, the bull market that began in late-1998 gained
just 50 per cent before peaking on the final trading day of 1999, a mild
rally in historic terms. If the past is any guide, the final low for the
bear market that follows should not be worse than 27 per cent below the
peak. This suggests a bottom no lower than 5059 on the FTSE 100 index.
Viewed from this perspective, the closing price of 5314 on March 22 might be
the final bottom. If not, history suggests the ultimate low will not be much
lower.
And what will the shape of the final recovery look like? Recent forecasts
have included U-shapes, V-shapes, Ws and square roots and some more exotic
patterns as well.
Take these forecasts with a grain of salt. Analysts try to sound clever when
describing how a recovery will unfold and occasionally get a bit carried
away.
Fortunately, history provides some clear-cut guidelines about the shape and
recovery speed of the typical UK bear market bottom.
Here in the UK, three kinds of market bottoms frequently appear: V-shapes,
"slow-and-steady risers" and plateaus.
Throughout the 20th century, V-bottoms were always characterised by very
sharp drops at the tail-end of a bear market triggered by serious shocks to
the financial system. The first month of the bull run that followed was
equally exciting, with rallies of 13 per cent or more.
A good example occurred at the end of the bear market in 1972-74. By October
1974, key markets like Tokyo and New York were beginning to recover but
London was still contending with recession, political crisis and a fragile
financial system. Prices fell 16 per cent in the final sell-off after
falling massively in the preceding two years.
A new bull market finally began at the year-end once signs of an economic
recovery began to appear. Shares rose more than 50 per cent in January 1975.
A more recent example occurred in 1998 when investors took fright from three
sudden shocks involving Asia, Russia and the collapse of a large hedge fund.
Prices dropped 25 per cent in less than three months.
The recovery was equally exciting as repeated interest rate cuts convinced
investors that the monetary authorities were intent on keeping Western
economies on an even keel. Shares rose 17 per cent in one month and regained
all the lost ground in just six months.
Notice the common links: severe economic or political crises and large falls
followed by heavy buying once investors realised each problem was being
resolved.
Based upon these characteristics, available evidence suggests March 22 was
not part of a V-shaped bottom. The sudden 10 per cent drop in February/March
lacked the size and raw fear associated with other V-bottoms. Also, the
rally in the month that followed March 22 was far too weak.
This leaves us with three possibilities: (1) we are in a "slow and steady"
recovery, (2) a long-term plateau bottom that will bounce around the
mid-5000 level on the FTSE-100 for many months or (3) a bear market that has
yet to reach its low.
The plain vanilla truth is that despite the headlines, we still don't know
how things will turn out. No one does. But here are some historical facts to
help navigate the uncertainty of the next few months.
Leisurely or "slow and steady" recovery rallies are typically associated
with weak economic conditions. Recession fears are often in the news during
the final stage of each preceding bear market, as they have been for the
last few months, but investors eventually learn the economy was growing at a
slow, 1-2 per cent rate during those troubling times.
So far, recent economic forecasts seem to fit the "slow and steady" recovery
scenario. As long as the UK economy does not drift into recession, it seems
like the most likely prospect for the new bull run.
History provides us with one other important landmark to help us to spot a
"slow and steady" recovery.
Throughout the 20th century, each and every Slow and Steady recovery
featured a rally that drove prices up by at least 9.5 per cent above the
bear market low two months (44 trading days) into a new bull market. If
prices were lower at the 44-day mark, it proved to be a clear signal that
either (1) a long-term base-building phase - also known as a plateau
bottom - was in progress or (2) the preceding bear market bottom had not yet
been reached.
As of Monday, May 21, we are 39 trading days into the rally that began on
March 22. The FTSE-All Shares index stands 11.6 per cent above the March 22
low. The 44th trading day since March 22 will occur on Tuesday May 29. Watch
carefully.
If prices slip between now and next Tuesday, history is signaling high odds
either that we are in a plateau bottom or that the final bear market low has
not yet occurred. Either way, it pays to hold off taking any long-term
positions. The odds are high that a lower entry price will be on offer in
the weeks and months ahead.
History teaches that plateaus generally run for at least four months.
Short-term rallies may occur but prices end the period in the same general
area in which they started.
