Bulls, Bears, and Dead Cats

By Matthew Klein |  Tuesday, April 7

So Close. U.S. stocks started the day strong, up roughly 4%, only to end the day down about 0.2%. Hopes about the trajectory of the novel coronavirus -- based on data from yesterday -- were dashed by new data released this afternoon. Oil prices fared even worse, with the price of a barrel of West Texas Intermediate down 9.4%, to $23.63 a barrel.

My colleagues at the Dow Jones market data group note that if U.S. equities had done just a bit better today, we would have been back in a bull market. As things currently stand, the S&P 500 index has gained almost 19% in the space of 11 trading days. Technically, the Dow Jones Industrial Average already started a new bull market after it soared 21% in three days in late March.

The new S&P 500 bull market could be official with a decent day tomorrow. The magic threshold is 2,684.88, less than 1% above today’s closing price of 2,659.41. 

But let’s leave aside the numerical thresholds of “bull market" and "bear market," which are traditionally defined by 20% moves from market peaks and troughs. The bigger point is that the historical record for these sorts of situations is not particularly encouraging. The shortest bear market of all time was in November 1929. Two of the shortest bear markets were both in 1931. The two fastest transitions from the bottom of a bear to the start of a “bull” market were in October 1931 and November 1929. These were not buying signals, but brief interruptions in a much longer decline in stock prices. Traders call them “dead cat bounces.”

Admittedly, there is one positive precedent. March 23, 2009 marked the end of the third-shortest bear market of all time (20 days). U.S. stock prices roughly quadrupled between then and the most recent peak.

Sadly, that encouraging example may not be particularly relevant today. One obvious difference is valuation. In March 2009, the cyclically adjusted price/earnings ratio (after accounting for changes in dividend and buyback policies) of the S&P 500 was under 15,  as calculated by Professor Robert Shiller. Now, that ratio is around 27. For perspective, the price of U.S. stocks been about 23 times cyclically adjusted earnings on average since 1960.

So while U.S. stocks were on sale at a steep discount in March 2009, they are currently still trading at a modest premium. That limits the potential upside for investors. It’s hard to make money from the end of a disaster when the markets are already pricing in normalcy.