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The difference between this comeback and the market’s last failed bear market bounce


A 17% S & P 500 surge off a new bear-market low in a market drenched in stagflation panic? Been there. Such a rally rushing up to the index’s 200-day average alongside retreating bond yields, the Volatility Index cracking below 20 and hopes the Federal Reserve would soon ease up on its tightening? Done that. All this occurred from mid-June to mid-August of this year, and in broad terms has been repeated from mid-October through last week, with the S & P threatening to break above the 11-month downtrend line as a rush of bond buying had Treasury yields rolling over and the US dollar deflating. It doesn’t take AI-powered pattern recognition to observe these parallels and conclude that the latest rally is on borrowed time, yet another teasing bear-market bounce likely to unwind against a valuation ceiling and persistent recession concerns, same as the summer version did. This reading of today’s setup is both fair and, because it’s so plausible, popular. Yet it’s worth exploring key differences between now and the mid-August peak, as well as disparities between this cycle’s character and many others from recent decades. On a purely technical, tape-reading basis, the S & P 500 this trip has in fact now closed above its 200-day average, whereas it merely touched that threshold in August. This is no “On” switch for a new bull market, but it’s a box checked off for now. More individual stocks have both made new highs and are sitting above their own various moving averages now compared to the summer advance, a clue of better underlying demand but, again, one that doesn’t quite carry the bull case beyond all reasonable doubt. The equal-weighted version of the S & P 500 is down only 8.5% this year and a mere 2% off its August peak, compared to 14.5% and 5% for the standard market-cap-weighted S & P, more evidence that the “typical stock” is holding up better than the biggest ones. Turning point? The calendar is an obvious but possibly relevant distinction. Only three bear markets have ever bottomed in the month of June since 1929, while seven – the most of any month – ended in October. While the sample size on this sort of thing is pretty limited, the months following midterm-elections have historically been unusually friendly to equities. The investing public, helpfully, has retrenched severely. Bank of America tracks the 12-month change in margin debt balances relative to overall market value, with the recent extreme decline and sharp reversal higher fitting tentatively into the pattern of some prior market turning points. (This emerging trend still needs to do plenty to prove itself, though, in a way that the late-2000 bounce in the indicator decidedly did not.) Then there’s the fact that, in the four-and-a-half months since stocks peaked at a “lower high” in August, the market has absorbed a steady bombardment of Fed rate hikes and hawkish rhetoric designed to discomfit investors. The Federal funds rate was under 2.5% then with Fed officials insisting it must get much more restrictive, while the rate is almost 4% now and the Fed signaling it can slow down to coast to their destination perhaps near 5%. The 12-month forward consensus earnings forecast for S & P 500 companies has fallen by 4-5% since the mid-August market peak, leaving the index only slightly less expensive than four months ago but in effect showing that downside earnings risk has come as no surprise to the market. While hard to quantify or prove specific relevance, since the summer we’ve seen an accelerated meltdown in the crypto-trading complex – completing a $2 trillion peak-to-trough loss in notional crypto wealth – with no observable spillover into equities, credit markets or the broader banking system. With all of this one can build a defensible case that the market is displaying a tenacious resilience, feeding off a deep reservoir of investor skepticism and cautious portfolio positioning. A defensible case, but not a lock. ‘Technical torture chamber’ John Kolovos, chief technical market strategist at Macro Risk Advisors, is open to the chance the market is attempting to form a reliable bottom but doesn’t see it as an easy ride from here: “Peak inflation will help build a floor, but growth concerns will limit the upside for equity markets. The net result of this dynamic will make trends harder to exploit and keep us in the technical torture chamber well into 2023.” The macroeconomic anxiety is both extreme and grounded in a good deal of evidence. The compression in longer-term Treasury yields even after Friday’s strong-seeming employment report removes a direct source of pressure from stocks, yet left the yield curve even further inverted, with short-term rates at a fat premium to the 10-year. As Bespoke Investment Group put it late Friday, “Treasury buyers came out in full force even with the stronger-than-expected economic data, which suggests the market knows that a weaker economy and a looser Fed is still on the way.” Bleak CEO and consumer confidence readings, collapsing housing activity, the ISM manufacturing index sliding below the 50 line all qualify as pre-recessionary indicators and historically stocks have not ever bottomed before a recession started. The upended yield curve is also not to be dismissed, but the lead time from inversion to recession onset has sometimes been as long as two years. And the market setup this time has not been typical. The equity market has tended to advance well into a Fed tightening cycle and to be at or near highs at the first slip into an inverted Treasury curve. This time, stocks began falling two months before the first Fed rate hike. And, as Leuthold Group’s Jim Paulsen points out, “By the time the yield curve inverted in October, the S & P 500 had already fallen about 25% from its high, essentially ‘pricing in’ a potential inversion by more than it had in any previous episode since at least 1965.” He crunched the numbers to show that when stocks in the past were weak ahead of a 3-month/10-year Treasury inversion, the market tended to hold up better even when a recession followed. Most anticipated recession ever Of course, the jobs number as well as personal spending data reported last week show that the door isn’t entirely shut on the notion of a softer economic landing. Nominal GDP growth – real growth plus inflation – is now running near 6-7% annualized, above the best levels of the 2010s, a hint that the absolute level of economic activity is high enough to buffer a slowdown’s impact on corporate revenue at least for a time. A Philadelphia Fed economists’ survey recently showed a record percentage of forecasters expect recession to hit within a year, making this the most anticipated contraction ever. Wall Street strategists, meantime, are collectively projecting a modest drop in the S & P 500 for 2023, the first time since at least 1999 when the consensus failed to target annual gains. It’s understandable why, given a strident Fed and the patterns of past bear markets; in both 2001 and 2008 there were good fourth-quarter rallies featuring a strong November (as we had this year) and in each case the indexes rolled over hard in the new year, at least for a while. Still, in this situation, low expectations are better than high hopes.

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