Are the bulls on the run?

Founder of FNArena
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I’m sure the question has crossed your mind in weeks past: is this it? The moment when we’ll all look back next year, and the years after and say: hey, that was when the 2012 bull market started!

Bell Potter’s managing director of wholesale, Charlie Aitken, certainly thinks this is the case. So does Morningstar’s old hand Ian Huntley. Clifford Bennett, nowadays of White Crane Group, has been screaming, “bull! bull!” from the top of his lungs ever since global equity markets started rising in March 2009.

The rhyme of history

But before we look into the merits of these predictions, let me take you all back to my favourite reference for what we’re experiencing today: the sixties and seventies. Not that history can provide us with all the answers about the future (it can’t), but it does provide us with a framework, and with some ideas about what’s possibly happening now. To quote Mark Twain: “History doesn’t repeat itself, but it does rhyme”.

As you can see from the chart below, things weren’t exactly running smoothly between 1966 and 1981. We had several strong rallies of 20% and more during those 15 years – one year we even had a rally of 76% – but these upswings were all followed by sell-offs of up to 45%. At the end of the period, in 1981, the Dow Jones Industrial Average had once again sunk well below the level of 1966. Finally, it took one more Big Rally of 38% to push US equities through resistance and never look back again.

In 1979, Time magazine published its now forever famous “The Death of Equities” edition. If you look on the chart below, at the time of the Time magazine death cover, US equities had just finished yet another rally of 25% and were heading back to the bottom of the range. It would still take more than two more years before that bear-market ending rally in 1982.

How the ‘60s and ‘70s panned out

Here are a few easy to draw conclusions from the sixties and seventies:

  • By the end of that period, the general appetite for investing in equities would have been ab-so-lu-te-ly dismal, as the extreme volatility throughout those years, without making any noticeable progress, would have worn out the last remaining snippet of hope and gutted even the last few standing perma-bulls. That infamous Time magazine cover is all the proof we need to support that statement.
  • But also: every time the share market would go through yet another rally, or make a fresh new start after yet again bottoming out at the lower end of the range, we can all be 100% certain there would have been at least a handful of commentators and equity strategists on the sidelines calling the advent of the next Big Bull Market.

20th century bear markets

Even scholars of the 1930s acknowledge things had started to appear much better by 1935 and equities had actually staged somewhat of a come-back in the form of a 900-day rally before the overall environment unexpectedly turned sour again. This is why some experts maintain the 1930s period actually consists not of one, but of two separate bear markets. Just like some experts believe, the bear market that started in the mid-sixties ended in 1976.

What all this analysis about these two reference periods has in common is that conclusions are being drawn many years later, in hindsight. One famous saying about the thirties is that, ultimately, those investors who managed to pull out in time during the first bear phase, later got sucked in again and were then taken to the slaughter. I can only assume the same thing happened again in the seventies. It seems but a fair assumption to make.

In hindsight

Which takes me to the point I wanted to make: the conclusion whether a new bull market has started and whether the bear market that started in late 2007 (or March 2000 – depending where we put the starting point) has finally ended will only be made at some point in the future, in hindsight. Because at the start of market turnarounds, and during the upswings that ensue, nobody can comfortably predict what will happen at the end of the ride, when momentum slows and things turn sour again.

One thing history shows, though, is that pullbacks outside the bear market (i.e. in a bull market) are more benign in nature and merely a pause in a long term, continuous uptrend. In a bear market, however, those pullbacks are more vicious and stronger in nature and tend to push back equities to the bottom of the range, if not lower.

It seems rather futile trying to announce the next bull market and the death of the bear, without knowing what the next serious correction will look like. Things are not made easier by the fact that upswings can last for a while, sometimes one full year or even longer, and so can subsequent downswings.

It cannot be denied, however, that there are some good arguments in favour of a new bull market. Overall despair among investors is high and market participation is very low. Even in the US – imagine! – as major indices are back at levels from early 2008 and within reach of their all-time record highs (including the Nasdaq), investors continue pulling money out of the market and out of managed funds, and they have continuously pulled funds since the uptrend began in 2009.

No sellers left

Here’s one thought that has remained on my radar throughout 2012: it really feels like there are not enough sellers left to push equities much lower.

Most investors who don’t want to participate in today’s market, no longer are. They have sold whatever there was to sell. They sit on the sidelines and wait, if they haven’t abandoned the share market altogether. But the traders, and the optimists and those funds managers who allocate Australia’s super funds to equities, will push up prices, even at low volume. To get this market into a serious downward spiral again, we first need to see some serious volumes moving back into the share market. This might just be another reason as to why the next downtrend will be more telling than what is happening right now.

There’s anecdotal evidence that suggests equities are most definitely out of fashion. Historically, this has been the ideal platform from which new bull markets emerge. What needs to be kept in mind, however, is that we can be pretty certain that when the market bottomed in April 1980, the situation wouldn’t have been different and yet, after a rally of 35% over the subsequent 12 months, equities again sold off by 24% in 1981. I’m even willing to bet the situation would have been pretty similar in 1978 when the Dow bottomed at practically the same level as it did two years later in 1980.

US vs. Australia

There’s also another approach that can’t go unmentioned in this context — while the US share market tends to go through extended bear market phases post periods of excess, historically the pain that trickles down onto the Australian share market is not as extensive as the US experience. Former Wilson Asset Management stock picker Matthew Kidman, in his book “Bulls, Bears & a Croupier”, argues that bull and bear cycles in Australia seldom run parallel with those in the US. The best evidence is the US equities’ bull market ended in March 2000, while Australia’s bull market started in 1992 and didn’t end until November 2007.

Historically, writes Kidman, bear markets in Australia don’t seem to last longer than five years, which would put the start of the next bull market at around later this year/early 2013.

I’d argue the past years certainly have shown US equities and the ASX200/All Ordinaries don’t always trend in lock step. But this can also mean that while US equities could well officially rally above their previous bull market highs before year-end (which would make it, according to a widely used definition, no longer a bear market) this does not automatically translate into good news for Australia. Chinese equities, at the other end of the spectrum, still look very much in bear-territory and very ill indeed.

The key element

To make this matter even more complicated, consider the following: according to most experts (also my view) US equities entered a new bear market in March 2000. Yet, with ultra-low interest rates and ultra-loose monetary policy, global equities, including in the US, managed to squeeze out four years of renewed investor exuberance, until reality kicked in again. The key element, just as was the case in the 1970s, is that underlying problems hadn’t been addressed properly (it can even be argued things got worse instead).

And that about summarises my view for where we are today. Yes, we’ve had four years of sideways, going-nowehere-in-a-hurry share markets after the 2008 disaster (at least: outside the US), but it’s not like we have solved all our problems. In fact, it can be argued we haven’t solved much, except that we discovered the virtue of excessive liquidity and we’ve started using it in spades. I still expect that at some point, the cans that have been kicked further down the road will come flying back into our faces. By then, all shall be dependent on where we are in the economic cycle and with financial valuations, etc.

Which is why investors should participate in the share market according to their own level of risk appetite.

Look for dividend payers

Don’t forget: compounding growing dividends is the key to true investment success in the longer run, while “All-Weather Performers” offer the best risk-reward in the share market when purchased at reasonable value. Mining and energy stocks, including industrial cyclicals, can be ideal to find higher rewards in a shorter time-span. Unless we’re at the beginning of a new, sustainable bull market, of course, or a repeat of 2004 to 2007.

Whenever in doubt: see all the above.

Important information: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Anyone should consider the appropriateness of the information in regards to their circumstances.

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