(Baird’s Ross Mayfield wrote the following piece in August 2022)
PAST BEAR MARKET RALLIES PROVIDE CONTEXT
With the S&P 500 now two months and 10%+ clear of the June lows, the questions we’re hearing most often are 1) Have we hit the market bottom; and 2) Is this the start of a new bull market? Of course, as our own Michael Antonelli writes, “The issue with calling ‘bottom’ is that it’s only knowable in the future. When the low was made in March 2009 (Great Financial Crisis) and March 2020 (Covid Crash), no one believed the worst was over. Why? Because headlines were still horrific.” Bear market bottoms often occur when we least expect. And while the question of “new bull or not” is mostly semantics for the long-term investor, it is still a worthwhile exercise to take stock of where we are in this bear market process.First, our chart. Here, we look at every bear market rally of 10% or greater in the last five decades (a bear market rally is a multiple day rally during a bear market—go figure—followed by a reversal that sends the market to a new low).
As you can see, the current rally, from the June 16 low to the August 16 peak, is a bit above average in length and magnitude. It has lasted 61 days (so far) and rallied 17.4%, while the average is 49 days and 15.5%. So, while this rally has been both impressive and welcomed, it’s not all that far off the average.
Still, it’s a positive that rallies of this magnitude are few and far between. Why? There have been seven bear markets in the last 50 years, but just eleven bear market rallies of 10% or greater. Once a rally clears a certain size/length threshold, it rarely reverses back to new lows. Therefore, the longer and stronger the rally, the more stocks participate, the less likely we’ll see a new low during this cycle.
To explain why this might be, imagine the stock market as a constantly updating system. Its direction and velocity at any given moment are the summation of hundreds of thousands of investors looking to the future, discounting their outlook back to the present, and then betting on that future with their dollars. The masses can be wrong (and have been before) but longer rallies indicate that investors have had plenty of time to reverse course and sell, yet still have chosen not to. The higher the market rallies, the more investors are betting that the worst-case scenario is off the table. As noted above, markets bottom when things feel really bleak. But the worst vision of the future is rarely the one that comes to bear.Ultimately, this rally may still prove to be a head fake. Remember, a bottom can only truly be known with hindsight. But the current move higher would already be one of the more impressive bear market rallies of all time, and every day we go higher and longer, the less likely that this isn’t a bear market rally at all—but rather the start of something new.
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