With the S&P 500 falling -8.2% this month, perhaps the best advice any investor could have heeded so far this year was to “sell in May and go away.” And in light of the fact that at its low point last week the market had fallen -12.3% on a closing basis and -14.6% on an intraday basis, many investors are now wondering if this is the beginning of a new bear market and/or a replay of the 2007-08 crisis.
To be sure, this market has put fear back into investors’ vocabulary. If the doomsday scenario of Europe’s debt mess dragging the globe back into recession isn’t enough to get your attention, the out-of-the-blue ‘flash crash’ which saw the DJIA plunge nearly 1,000 points in twenty minutes probably did. But while fear is indeed on the rise, should we really expect to see the market morph into another bear?
To hear the glass-is-half-empty gang tell it, the fact that we’re seeing the biggest pullback since the bull began on March 10, 2009 is meaningful. Up until late April, the bulls had been large and in charge with nary a single selloff reaching the all-important -10% mark for more than a year. But with the current decline reaching double digits and the 200-day moving average now looking like a resistance zone, our furry friends suggest that it is only a matter of time before we see the market begin to head south again in earnest.
The bears point to the action across the pond as the culprit for what they expect will be their return to prominence. The idea is that the debt mess will, at the very least, create an economic slowdown, which will spread to China, then the U.S. and beyond. As such, the bears contend that stocks are now currently overvalued and must be adjusted downward. Exhibits A, B, C, and D in the bear case are: the tightening credit conditions, the plunge in the Euro, the failed European auctions, and the flight to quality via the dive seen in U.S. interest rates
Speaking of U.S. rates, it was the fear of what could happen next overseas that pushed the yield on the 10-year Treasury Note down to its lowest level since the credit crisis ended during the middle of last week. Fear also has caused credit spreads to widen to, yep; you guessed it, the highest levels since the post-Lehman days.
Moving a little farther east, the naysayers have been telling anyone that will listen that China’s growth story is about to come to a screeching halt. The most common arguments here involve the moves by the government to try and avoid a bubble in real estate and the impact of a European slowdown on China’s export-driven economy.
The bear camp also argues that the price of oil and the current malaise in investor sentiment are reasons to be concerned about more downside action. With oil gushing into the gulf on an ongoing basis and with no end in sight, one might have expected to see crude prices rising. However, the fear of economic slowdown has pushed the price of oil to its lowest level since early 2009 – a time when everyone thought the sky was falling.
Finally, our friends in fur suggest that big hedge funds and institutional investors have had a change of heart about the future of stocks and are now “de-risking” en masse; something that will cause rallies to be sold into with a vengeance for many months to come.
Is It Different This Time?
While the above arguments are enough to give any sane investor pause, we’re going to go the other way for a few minutes this morning and try to counter the arguments for a second coming of the big bad bear.
For starters, we need to understand that although the storyline of debt problems and credit tightening sound eerily familiar, the overall situation now is nothing like what we saw in mid-2007 and 2008. The exhibits for our case include the state of the economy, earnings, and credit conditions, as well as the internal health of the stock market itself.
Looking first at the current economic conditions and what could come next, we first need to remember that in 2007/08, the economy was entering into recession; a slowdown that has since become known as The Great Recession. However, today is a very different story. The U.S. economy is in an expansion mode and even
