While I believe we are still in the 6th inning of a multi-year bull market, history is not very friendly to those who chase the market at their extremes. I do not subscribe to technical analysis per se, but I do pay attention to momentum and volatility indicators, as they are indicative of the behavior of investors and collective emotions of the market. The nimble and patient investor would be foolish not to take advantage of the madness of crowds.
Bull Market Corrections
Since the generational bottom on March 6th, 2009, the S&P 500 is up a whopping 129%. Along the way there have been four significant corrections with similar characteristics as shown in the table below. Each correction has lasted between 51 and 79 days, with price movements of -7% to -18% from peak to trough.
|Date||SP500||10d RSI||VIX||20d ma||50d ma||100d ma|
The relative strength index is a measure of the rate of change and magnitude of price movements over a fixed period, in this case, 10 days. An RSI over 90 indicates an extremely overbought market moving in one direction. The RSI has been a reliable indicator of extreme market behavior and puts a relative number on what we already know, that the market is overextended in the short term. I expect the RSI to decline to below 30, which will be one indicator to start buying.
The VIX is a measure of the expected volatility over the next 30 days. Currently, the VIX is indicating that the market has a 68% probability (one standard deviation) of moving 3.26% in either direction over the next 30 days. A notable trend is the decline in volatility from the start of the bull market to today. This is typical of a maturing bull market, attracting less fear and more optimism as the market advances. Monetary policy has also done a fantastic job of suppressing volatility. I expect the VIX to spike to around 18, which will be another indicator to buy.
Looking at the moving averages, the characteristics of the last two corrections were very similar, as the market declined from a peak of 7% and 10% above the 20d and 50d over a two-month period. I expect this correction to have similar characteristics, and will look to start buying when the market breaks below the 20d MA of 1456, with support at the 50d MA of 1414.
The table below shows the breadth of the five bull runs since the March 2009 low. As can be seen, the duration of each run from trough to peak has been steadily declining. This is typical of a maturing bull market, as the proverbial "wall of worry" becomes smaller on each subsequent run. The magnitude of the advances have also declined as the market matures.
Looking at volatility and momentum indicators are only one piece of the market puzzle. Of course, earnings, valuations, interest rates and geopolitics will ultimately guide market movements, but bull markets do have similar characteristics with different triggers for price movements. Could the market move higher before correcting? Absolutely. Could the correction have already started? Maybe. I think the peak of this bull run was March 14th, and the market will decline over the next 30 to 50 days by 7 to 10%, setting the stage for another powerful rally in the second half of the year to a new all-time high.
John Templeton famously said "Bull-markets are born on pessimism, grow on skepticism, mature on optimism and die on euphoria." I believe we are somewhere between skepticism and optimism, but no where near euphoria. This is the stage of the bull market where size matters, and mega caps (>75B) will lead, as the more conservative investors start moving into the market. Late stage investors will look for brand, size, quality, dividends and durability of cash flows, which will drive multiple expansion to 18x trailing earnings on the S&P 500 over the next 12 to 18 months, for a price target of 1800 to 2000.