Bear Market Confirmation

On Friday January 15, 2016, the US stock market confirmed a bear market based on the criteria that I analyze to help investors understand if stocks are in an uptrend or a downtrend. The following are 10 points to consider as we approach the 2016 bear market:

1. Our last two bull markets were considered “stock market bubbles”.  

The 90’s bull tech bubble and the 2002-2007 real estate bubble were followed by two bear markets that averaged about a 50% loss in stock prices. I have maintained the position that the Federal Reserve was causing our third bubble of the past 20 years with its easing programs (a liquidity bubble). Therefore my initial forecast for this bear market is for the DOW to eventually move down to 12,500 by the end of 2016.

2. Historical bear markets move equity prices faster than historical bull markets.

Bear markets in the US equity markets average about 18 months. Some have been shorter; some have been longer. The DOW made a high in May of 2015 at 18,351. Other popular indexes made new highs in November. If most bear markets average 18 months, this bear market could last through 2016 and potentially into early 2017.

3. During the past two bear markets (2000-2002 and 2007-2009), the rallies that followed the first correction were significant. 

A significant rally ahead is not assured, but having one would be translated by many as “the correction is over”; in reality we would just be beginning.

4. Do not underestimate a bear market in any security. 

Fear is a powerful emotion, and it tends to break things down in our markets very fast. Gold reached a high in early 2012 at $1923 spot price. Many forecasted gold to get to $3000 or more. Later in 2012, gold started to decline and is currently trading at $1087. Crude oil peaked in 2013 at $112.24, and then started a bear market. Today it is at $29.43, and it continues lower.

5. Bear Markets in the US affect almost all company stocks.

During bear markets it is rare that a company gains in price. Superior fundamental stocks typically go down in percentage points with the market drop. Stocks with inferior fundamentals go down more than the overall stock market, and some even fail (dot com companies, Tyco, Enron, Lehman, etc.)

6. Patient investors with a discipline outshine the rest, but they must be willing to accept some fluctuations in stock prices.

All investors experience loss at one point or another in their investing career. The most successful do not panic and wait for extreme conditions to buy. There is a saying on Wall Street, “Buy Low, Sell High”. Buying low is very difficult. During the past few months, Criterion Capital Management clients have been provided some guidance via a visual chart to help understand when the best opportunities in stocks can be (as in 2002 and 2009) and are prepared to overweight equities when we reach this “technical bottom”.

7. Look for extreme conditions before the end. 

Most investors do not feel like buying at the bottom, at the extreme. I will be working closely with clients over the next year to help them understand what we could see. For example, in 2008-2009, CBS stock traded at $3, Apple traded at $13, and Disney at $18 to name a few instances.

8. Price-Earnings ratio (known as PE) is a fundamental tool used to help understand if the market is “expensive” or “cheap”. 

Today the PE ratio is over 23, and the historical mean is 20. Before the end of a bear market, the PE ratio can drop to below 10, and during a severe bear market it can reach as low at 7. PE ratios, at a minimum, should drop below 20 in the next year, and could possibly drop down to 10.

9. During bear markets, tensions rise among countries. 

It would be normal for a current condition to become a crisis (ISIS, North Korea, terrorist activity). Some would argue that it already is a crisis, but during bear markets, the crisis is acknowledged by all and not just a few.

10. Elections are typically defined by the stock market.

In 2008 the Republican Party lost favor when stocks collapsed. Barack Obama defeated John McCain by a wide margin. If the bear market described above occurs, it will favor the Republican Party. So Drumpf/Cruz/Rubio would defeat Clinton/Sanders.

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2016 is setting up to be a very difficult year for stocks. If anything changes in our internal research, I will quickly update our forecast, but for now, we appear to be in the early months of a new bear market.