The stock market has had a fairly wild ride in 2022. Buffeted by war in Ukraine, spiking inflation and the sudden reversal of years of loose monetary policy, stocks fell into bear market territory in June, with the S&P 500 Index down more than 20% from its peak. Since then, the index has pinwheeled up and down, surging 9.2% in July only to drop 4.2% and 9.2% in August and September, respectively, before rallying 8.1% in October. November has seen stocks continue their upward momentum, rising slightly more than 3% in the first half of the month.
Despite its recent rally, the S&P 500 is still down 16% year to date. While hardly a bumper year for stocks, that is not necessarily indicative of a secular bear market. Indeed, while many analysts have lamented the state of the market of late, not all agree the downtrend is indicative of a secular bear market. Rather, it may be the case that investors are dealing with a mere cyclical bear market, one that will be short-lived and quickly overcome by the overarching secular bull market.
Cyclical or secular?
In August, wealth manager and Bloomberg podcast host Barry Ritholtz called the recent reversals a “cyclical bear within a longer secular bull.” In other words, the stock market retreat during the summer was the result of short-term retrenchment, not a sign of a long-term shift in market momentum away from growth. Ritholtz has maintained this position in the months since, tweeting on Nov. 10:
“We've been in a secular bull market since Summer 2020; sell-off this year = cyclical bear within the broader secular bull than a full-on secular bear market. You never know what ends a cyclical bear but a giant thrust up on huge breadth + above average volume is a good start.”
According to this view, investors are overly fixated on what is ultimately a short-term, cyclical bearish swing within a broader secular bull market. Ritholtz expanded on his stance in a blog post, citing the Nasdaq’s 7.4% single-day upswing on Nov. 10 as indicative of a potential positive breakout:
“About 25% of the time, these giant moves higher mark the reversal of the prior trend. Meaning, that in about 1 in 4 times, a giant up move in the Nasdaq marks the end of the prior down-trend and the beginning of a much more constructive period. That is not enough to rely upon as a trading rule, but it should be enough to capture your attention.”
The historical strength of the indicator certainly makes it worthy of consideration, in my view. However, the heightened volatility of the market makes any directional trade based on it difficult to countenance. Thus far, it is impossible to say whether last week’s rally was enough to snap the cyclical bear market trend. Moreover, it is not entirely clear that the bear market is simply cyclical.
Sailing through volatile market waters
The present market anxiety can hardly be called irrational, given persistent inflation, rising interest rates and mounting geopolitical tensions. Any or all of these could combine to intensify market turmoil, both short term and long term, according to Rob Haworth, senior investment strategy director at U.S. Bancorp (USB, Financial). In a Nov. 8 market update, Haworth advised investors to expect significant volatility to persist for the foreseeable future:
“We’re likely to experience market ups and downs regardless, and over time, markets have shown an ability to recover…While we may see a more favorable environment develop down the road, the market still faces many challenges given the current economic underpinnings.”
The economy is undoubtedly more fragile than it has been in years, so there are many potential pitfalls ahead. Policy decisions by the Federal Reserve in particular could have major implications for the stock market, as Tom Hainlin, national investment strategist at U.S. Bank, pointed out in the Nov. 8 note:
“The economic data we’ve seen, such as healthy jobs reports, indicate a material risk that the Fed continues to raise rates. If this slows the economy further, dampening corporate profits, investors may not be willing to pay such high prices for stocks. But at this point, even a modest recession may be considered a success by the Fed.”
The market has clearly absorbed this reality, as indicated by heightened investor anxiety and market volatility. That anxiety is quite rational, in my opinion, given the state of the macroeconomic and geostrategic environment in which market participants must play.
My take
In my assessment, it is still too early to tell whether Ritholtz is right about the nature of the bear market. After all, bear market rallies can look deceptively like resurgent bull markets, as economist Adam Hayes has observed:
“The deepest bear markets have in the past produced the biggest bear market rallies. In the aftermath of the Stock Market Crash of 1929, the Dow Jones Industrial Average went on to rebound 48% from mid-November through mid-April of 1930. From there, the Dow declined 86% by the time the bear market hit rock bottom in 1932.”
Stocks have struggled to stay buoyant in the intensifying market storm. It may be overly optimistic to bet on a swift return to calmer market weather given the many macroeconomic overhangs that remain.
