Popular financial media reports and pundits often talk about bull and bear markets, based on 20% gains or losses off recent lows or highs. Investor websites and even Wikipedia also cite a 20% rally from a recent low or drop from a recent high as the definition of a bull or bear market. This definition is a bit too cut and dried though. The ‘grandaddy of chart analysis books ‘Technical Analysis of Stock Trends’, has a few definitions of trends. Trends are defined as being primary, secondary and minor. One of the definitions of a primary bull or bear market is that they can move 20% or more and last from many months to a year or longer. Not that they have moved 20%. The quote below is lengthy, but really sums up the thinking of how a bear market is formed.
“The Bear Market: Primary Downtrends are also usually (but again, not invariably) characterized by three phases. The first is the distribution period (which really starts in the later stages of the preceding Bull Market). During this phase, farsighted investors sense the fact that business earnings have reached an abnormal height and unload their holdings at an increasing pace. Trading volume is still high, although tending to diminish on rallies, and the public is still active but beginning to show signs of frustration as hoped-for profits fade away. The second phase is the panic phase. Buyers begin to thin out and sellers become more urgent; the downward trend of prices suddenly accelerates into an almost vertical drop, whereas volume mounts to climactic proportions. After the Panic Phase (which usually runs too far relative to then-existing business conditions), there may be a fairly long Secondary Recovery or a sideways movement, and then the third phase begins. This is characterized by discouraged selling on the part of those investors who held on through the Panic or, perhaps, bought during it because stocks looked cheap in comparison with prices that had ruled a few months earlier. The business news now begins to deteriorate. As the third phase proceeds, the downward movement is less rapid, but it is maintained by more and more distress selling from those who have to raise cash for other needs. The “cats and dogs” may lose practically all their previous Bull Advance in the first two phases. Better-grade stocks decline more gradually, because their owners cling to them to the last. In consequence, the final stage of a Bear Market is frequently concentrated in such issues. The Bear Market ends when everything in the way of possible bad news, the worst to be expected, has been discounted, and it is usually over before all the bad news is “out.” Edwards, Robert D.; Bassetti, W.H.C.; Magee, John; Bassetti, W.H.C.. Technical Analysis of Stock Trends (p. 15). CRC Press. Kindle Edition.
Careful readers will note that 20% doesn’t get a look in the above passage. Instead, a bear market can be defined by price action and investor behaviour that many ‘behavioural analysts’ have latched onto. A good chartist or technician should be in ‘bear trend’ mode well before the general market or indices have fallen 20%. The table below shows the drops of 20% or more in the leading UK and US indices since 1987.
There have been around 8 tumbles in each market that saw a 20% swing lower from a key high since 1987. There have been a few ‘near misses’ as well of course, but for the sake of this blog, we will ignore them. Around 4 of these tumbles extended over 30%, and none of these falls extended over 60%. Not all of the bear markets followed the distribution and correction pullbacks as described above of course, but as a general outline of bear market sentiment it is worth keeping in mind. The charts of the FTSE 100 (top) and S&P 500 (lower) below show the 20% or more falls from recent highs in the circled areas.
What is a potential takeaway from all this? Don’t use labels – 10% for a correction, 20% for a primary trend to be established is not that useful. Instead, look at the higher highs and higher lows definition for a bull move or a lower highs and lower lows for a bear move. The reality of stock market investment flow is that retail funds have a major wave of money coming in periodically from many workers pay checks to top up their stock investment plans, retirement plans and other investment schemes. This was outlined in great detail at one of the first technical analyst meetings that I attended at a Technical Securities Analysts Association (TSAA) meeting in the mid-1980’s. Ralph Acampora, who I believe was at Prudential in those days, ran through the stock market investment flows and described how difficult it was for bears (and explained the relative outperformance game as well!). Central bank and government actions also act to boost shares and stock investments. While these central bank and government policies can lurch from time to time and raise rates or impose tax hikes that lean hard against equity market bulls, for the most part UK and US governments seem happy to act in order to boost shares when they have fallen a lot. The fact that half of the 20% tumbles since 1987 went onto fall more than 30% should give investors who say that they would love to step into market tumbles of 20% some food for thought – it is not a hard fact that indices can’t fall a bit further. Trying to spot a bear market? Don’t wait for the 20% tumble before acting.
Where are we now? The UK story has seen the turn higher from the 2020 lows build as higher highs and higher lows are keeping on the focus on testing the FTSE 100 2018 high at some stage near 7,900. The US story is simpler as the S&P 500 index has seen new all-time highs made through the year, keeping the bull market intact (so far).