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Are we exposed to a bear’s bottom, or are we seeing a new bull?

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The term ‘Bear’ and ‘Bull’ is thrown around so much in trading discussions, and people seem to be able to argue endlessly on what phase of the market we are in. Are we looking at a New Bull, or a Bear’s Bottom? Definitely a conversation that can last throughout an afternoon over a few drinks, possibly at the Bull ‘n’ Bear pub.

But where are we right now. Is it time to get excited, or is the light at the end of the tunnel an express train hurtling toward you?

To unpick some of that, what is a bear’s bottom – apart from the thing that Paddington sits down on to eat his marmalade sandwiches – and what is a new bull? Looking at the chart below on the S&P500 index over five years, we’ll see everything going pretty well until about Christmas time 2021. But as soon as the decorations were packed away, and the last of the turkey was added to a fajita mix, the index started to take a downward turn.

You’ll find the same pattern appear in the FTSE All-Share, but the upside (rally) lasted through to February, and the real downswing (contraction) happened at the end of February, about the same time as Russian tanks rolled over the Ukraine border.

Dead cats and bears’ bottoms

Skipping back to the S&P500, the contraction in this market continued to mid-June and then the index started to climb up again and some analysts said we had hit the bear’s bottom. This prompted traders in the US to break out the bunting and ticker tape, with the more optimistic declaring: “the wicked witch bear is dead.”

However, there is always a few people who can spoil a party, and the pessimistic crew said this was little more than a ‘dead cat bounce’ – another somewhat confusing term. The dead cat bounce refers to the fact that if you threw a dead cat off a bridge, it would bounce when it hit the deck – cats are fairly sinewy and stringy creatures – and what you are seeing is just a temporary, short-lived recovery of asset prices from a prolonged decline – the dreaded bear market. What follows is a continuation of the contraction. It’s also known as a ‘sucker’s rally’.

This upswing is unsupported by fundamentals, so if the long-term prognosis of inflation, cost-of-living pressures, commodity super-cycles, energy crisis is negative, based on those facts, it’s probably likely that long-term things will not be plain sailing.

However, these fundamentals aren’t exactly a closely held secret, so optimists argue that all the negativity is already priced into the market and now that the contraction has occurred as a result of the economic news, upward momentum can begin again.

The pessimists say that this few months of reversal of the prevailing trend is a temporary phenomenon, whilst asset managers take stock of their positions, stick their heads above the parapet and realise it’s not looking all that good, and the rally is quickly followed by a continuation of the downward price move.

Tea Leaves

Technical analysis can help in reading the market tea leaves – looking back on previous contractions and rallies and trying to find similar trading patterns can help divine what might happen in the present cycle. The Armchair Trader will explore technical analysis in more detail in the future, but this is just a quick snapshot comment.

In brief – using the S&P500 as a base case – as it is quite a visual market and trend-setting in developed markets, there have been nine bear markets since the S&P500 started trading in 1957. A bear market is defined as a fall of more than 20% on a closing basis, and right now in this contraction we can’t categorically state that the S&P500 has entered a fully-blown bear market, although the contraction is showing the characteristics of a bear market.

In the last nine bear markets, the market showed specific upward thrusts soon after hitting its first bottom. However, historically the market could not hold its momentum – just like a dead cat can’t levitate after being thrown off a bridge – and the optimism evaporated soon after. So – just going on a historic case basis – the market has not yet hit its bottom bottom yet.

Horizontal vs Vertical

That said, each bear market has been different. In this thrust the momentum has been more ‘horizontal’ rather than ‘vertical’ as it has been in most of the historic bear markets, so there is room for the argument that this isn’t a dead cat, but a newly born bull, tottering about quite unsteadily on new legs, before it gets its bearings and used to its muscles and then will start charging up and down the paddock causing mayhem

Time for another round, I think.

It’s really hard to predict the bottom of a market. Very few professional investors have managed it before and are generally motivated by the two levers of fear and greed and move as a herd, rather than more purposely like a hunting pack, and few will predict this one.

What it comes down to is doing your own research, picking your investments carefully on the merits of the company, its management team and its products and services. In choppy markets its all about what people – the general public – need as opposed to want. Good companies will come through bad times, bad companies do well in good times, as they can ride the momentum. The saying goes ‘all ships rise with the tide.’

Looking back at that S&P500 chart, you can see dips and peaks across the five years, but if you draw a line from start to the peak, it will try to follow the same trajectory in the future.

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This article does not constitute investment advice. Do your own research or consult a professional advisor.

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