Conditions Of New Bull Market: 20% Or More Drop

Continuing the installments of what conditions precede new bull markets, here is one that should be very obvious.

Jim Stack says that the Dow Jones Industrial should drop at least 20% from its top. Here’s a chart of the Dow Jones and the S&P 500 from their respective tops to the bottom in March:

Although the Dow is still the most commonly used index for the stock market, I also added the S&P 500 to the chart. Since it uses capitalization weight it is a better index.

The Dow Jones Industrial fell 16.4% from October 2007 to the March 2008 bottom. The S&P 500 fell a bit more: 18.64%.

If we exaggerate the constraints and rather than the close, use the high and the low, we get a 20% drop for the S&P 500. But still not for the Dow - it only reaches 18%.

In any case, the point isn’t to “cheat” to be able to reach some synthetic level. Lets face it, although most people put the classic definition of a bear market as one that has fallen 20% or more, there is nothing really magical about that level.

Much more important is the fact it represents a wash out of sentiment because if a major index like the Dow or S&P 500 falls 20% or more, then weaker stocks will fall much harder.

Conclusion
This condition isn’t met.

Comments

[VSD]

I think we will be revisiting the lows again and stay there for a while before resuming up later in the year.

2008 May 23 12:36 PM

[David Lentz]

Think DJIA down 25%-30%, and S&P 500 down 40%-50%. The longer it takes to get there, the more time we will spend at those levels (the "U" vs "V" recession).

Not until most investors have given up looking past the abyss and are looking into it will we see a turning point, when all optimism has been washed away.

Amazingly, the prospect of $200/bbl oil, $7/gal gas, soaring food prices has not yet made a significant dent in the level of optimism out there. People are still making plans on what to do when the bear market ends instead of how to put groceries on the table next week.

Perhaps the next quarter's earnings numbers will put a sufficient scare into folks. And if not that one, the quarter after that.

2008 May 24 08:26 AM

[dougnhi]

Couldn't agree wth David's comment more. This article seems to make an implicit (if not explicit) suggestion that there's reason to be bullish, when in fact, we've not yet begun the meltdown that will clear the market of the speculative and leveraged players. There's a hugh weight of losses yet to be accepted. Until a significant amount of the losses come out of the level 3 reporting chain, and become realized/written off, the market won't be able to get to the next bull phase. We seem to be allowing the Japanese style (pretend it doesn't exist and it will go away) of recession to gain a foothold, when we should be forcing banks to take lumps now so we can reset prices and get it over with. Helicopter Ben isn't doing anybody any favors with his pouring money into banks (who then pour it into commodities speculation...killing pretty much everyone). The financial games need to stop, the market must reset prices lower, and the losses must be taken. Until these happen, we won't be able to generate the confidence needed to start another bull run.

2008 May 24 10:57 AM

[steve west]

DougNHI- if only you knew what you were talking about

2008 May 24 12:23 PM

[MNSL]

I think current volatility will prevail in the market until it find direction.

2008 May 24 02:37 PM

[Harold]

One thing I've learned from the many years in markets/investing is if you follow set rules and guidelines as you've stated then perhaps its time for you to get out of the markets and also stop giving advice. Every bull and bear phase has its own patterns that have been created by the political situations of its particular situation. Growth by either home grown or outside the USA will greatly affect the DOW by pulling it up or down and in this case its the USA that has polluted the world markets and its the world markets that have lessened the blow to the DOW. My chart projections have been correct looking forward to the 4 month level for the past year and right now I see a dip that is almost finished with this year ending for the DOW at or close to 14600 without your doom & gloom.

2008 May 24 09:25 PM