Friday, October 10, 2008

Perspectives On A Bear Market

A few commentators have been particularly insightful during this time of wrenching declines across stock markets; it's a pleasure to pass along their thoughts.

Henry Carstens has posted an interesting chart that captures a 10% "drift channel" in stock market prices that reflects the long-term growth rate in equities as identified by the Dimson et al research. What is apparent from the chart is how far above that trend line we have risen in recent years. Henry opines that this unusual rise is attributable to the introduction of high leverage into markets via investment banks and hedge funds. With the credit crunch, we're seeing a massive unwinding of this leverage, which is returning us toward the "fair value" represented by the drift channel. Should we overshoot this channel to the downside, that might constitute a measure of longer-term investment opportunity.

In the interim, Rennie Yang of Market Tells notes that counter trend patterns in markets that had been reliable trading indicators have completely broken down in recent days. He explains to readers, "One of the key takeaways from the past six sessions, in which the S&P has plunged a staggering 250 points, is that normally reliable counter-trend trading setups have been absolutely crushed. Yet when we look at the daily chart of the S&P500, we still have not seen a real 'range expansion' bar - a down day that really stands out - despite the flurry of 3%+ down days (eight in the past month). Anecdotally, I'm surprised that so few reporters and/or bloggers are discussing the potential for a crash from current levels. Most reiterate common investment themes such as "don't panic", "it's too late to sell", "almost certain to see a bounce soon", etc." What has been clear, Yang notes, is that lower prices have not attracted buying, as the Cumulative NYSE TICK and advance-decline figures hit bear market lows.

Rob Hanna of the Quantifiable Edges blog reviews patterns of reversal in market washouts as a guide to what to look for should this market not just go to zero. One pattern that has marked these bottoms is that strength/buying off the lows has led to further strength and buying, as value-oriented investors have leaped at opportunities. Thus far, as I noted recently, bounces in market money flow (such as we saw last week) have been selling opportunities and rallies off lows have been quite temporary. We won't really know when we've bottomed until we've seen a reversal off price lows that doesn't invite renewed selling.

As of this writing, markets around the world continue lower. I will be using the Twitter application to update market perspectives and developments. Thanks to readers for the positive comments about the Twitter posts; my best wishes go out during this time of turmoil.