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Good morning. With a sea of red ink in the global stock markets this morning and the U.S. indices flirting with the lows of the now 7-week old trading range, there are several key questions facing investors. First and foremost is whether or not we've got a bear market on our hands. Next up is the question of if the current decline has sufficiently discounted a recession. And finally, after a miserable September, what can we look forward to for October and the fourth quarter?

Let's start with the good stuff. First of all, while October is often viewed as a cruel month, it is not the worst performing month of the calendar from an historical perspective. On average the S&P 500 (using total return figures) loses -0.2% during October. This is far better than the average results seen during September (-1.1%) and is tied with average returns seen in February and May. In short, October gets its reputation for being a nasty month due to the fact that so many of history's stock market crashes have occurred during the month. And finally, it should be noted that when September has been down hard, October tends to wind up in the green.

Next up, we should remember that while things have looked downright ugly lately and our weekly risk/reward model remains quite negative, today marks the first day of the fourth quarter. The good news is that the fourth quarter has historically been the year's best quarter by far. In fact, the median gain seen for the S&P 500 during all Q4's has been +4.3%. And then the computers at Ned Davis Research tells us that after a bad third quarter (defined by a drop of -8% or more), the median gain in Q4 has been even better at nearly +5%. So, to borrow a line from Caddyshack, the market has that going for it, "which is nice."

Let's now turn to the big picture questions facing the markets. Although no one is talking about it at the moment, the question of whether or not we've got a bear market on our hands should be considered. Most investors define a bear market as a drop of -20% or more over a period of 3 months or longer. Thus, with the S&P 500 having fallen -17.9% from its highs seen on April 30th to the low of August 8th, it is easy to argue that the U.S. is experiencing, at the very least, a correction within an ongoing bull market.

However, it should be noted that the performance of the U.S. stock market looks to be one of the better houses in a bad neighborhood. Based on the performance of ETF's representing various countries and regions around the world, it looks like the U.S. is one of the few countries not in a bear market at the present time. In fact, the list of country-ETF's not down -20% or more from their highs is relatively short: U.S.A., Canada, Japan, and the UK. However, Australia, Brazil, China, France, Germany, Hong Kong, India, Italy, Spain, Mexico, and Russia are all down -20% or more from their highs.

While on the subject of bear markets, it is worth noting that the average loss seen during all Bear markets in the U.S. since 1900 has been -31.5%. However, when the market is in a "secular bear" phase (which we believe began in early 2000), the bear markets have been more severe, sporting a loss of -36.3% on average.

While this is not always the case, we're of the mind that it will be the state of the economy that will dictate the next big move in the stock market. As we've reported previously, if the U.S. can avoid another recession, the -17.9% drop has likely sufficiently discounted an economic slowdown. However, if we do fall into recession, we'll bet that another full-fledged bear market would ensue.

In looking at the past 10 recessions, Sentiment Trader tells us that the decline seen from the peak on the S&P 500 to the trough that occurred during recessions has been -30.87%. In addition, NDR tells us that in the last 11 recession, stocks had only lost about 50% of the ultimate decline before the recession began.

Thus, if you find yourself in the recession camp (along with ECRI, who made a "recession call" on Friday), you should recognize that there is still time to benefit from defensive risk management measures.

Finally, in looking at charts of how the market acted during the type of environment we've got right now (i.e. after a drop of approximately -18%), we find that stocks, on average, tend to rebound for a period of 2.0-2.5 months before making the next move. And since the low of this move was seen on August 8th, it is probably a good idea not to get too comfortable trading the range. History suggests that a break in the range likely close at hand.

Turning to this morning... While hardly a surprise, Greece has admitted it won't meet its budget deficit targets for 2011 and possibly 2012. Shockingly, the austerity measures implemented have also reduced tax revenue as the country's GDP is expected to fall -5.5% this year. Next up, the final Eurozone PMI stayed below 50. However, China reported that their composite PMI showed growth for the 31st straight month. However, all foreign markets are down hard at the present time.

On the Economic front... We'll get the all-important ISM Manufacturing Index at 10:00 am eastern.

Thought for the day... Regardless of the color on the screens, try embracing an "attitude of gratitude" today...

Pre-Game Indicators

Here are the Pre-Market indicators we review each morning before the opening bell...

• Major Foreign Markets:
  • Australia: -2.69%
    
  • Shanghai: closed
    
  • Hong Kong: -4.38%
    
  • Japan: -1.79%
    
  • France: -2.17%
    
  • Germany: -2.62%
    
  • Italy: -1.30%
    
  • Spain: -2.22%
    
  • London: -1.64%
  
  
• Crude Oil Futures: -$1.01 to $78.19
  
• Gold: +$40.80 to $1663.10
  
• Dollar: higher against the Yen, Euro and Pound
  
• 10-Year Bond Yield: Currently trading at 1.886%
  
• Stock Futures Ahead of Open in U.S. (relative to fair value):
  • S&P 500: -5.87
    
  • Dow Jones Industrial Average: -57
    
  • NASDAQ Composite: -17.44

 

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The opinions and forecasts expressed are those of David Moenning, founder of StateoftheMarkets.com and may not actually come to pass. Mr. Moenning’s opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report and on our website is for informational purposes only.