Bear In Mind

The S&P 500 would enter a bear market if it closes below 3,837 points, just 1.5% below today's close of 3,901. At the rate that things are currently going, that level could be breached any day now. What happens next?

Barron's Evie Liu took a look at the historical data today. Since World War II, the S&P 500 has endured 12 bear markets, of which nine lost at least 25% and three lost at least 40%—in 1973, 2000, and 2007. Excluding those three, the average peak-to-trough decline was 31%. That would put the S&P 500 around 3,310 points.

History also shows that the market tends to experience a short-lived “relief rally” soon after dropping by 20%, which last a few months before the market turns down again.

Here's Evie:

There are exceptions to this road map. During the 1987 and 2020 flash crashes, the S&P 500 didn’t have relief rallies. If the current selloff is anything like those, wrote [Martin Roberge, an analyst at Canaccord Genuity], stocks will lose another 10% to 15% until they reach a bottom in June.

Much scarier were the deep bear markets in 1973, 2000, and 2007, where the S&P 500 plunged an average of 51.4% before touching the bottom. These selloffs were painful and long. From the point when index entered a bear market, it took another 258 days, on average, before it reached the trough.

If the current selloff were to follow this path, a true market bottom won’t be reached until the second quarter of 2023, according to Roberge. “Frankly, we doubt that a 50%+ bear market is in the cards since short- and long-term rates are much lower today,” he wrote. “Still, this is not a 0% probability event.” 

Another worrying statistic from Evie: On average, the S&P 500 has bottomed out at 12 times earnings in past bear markets. Even after recent declines, the index is trading for about 18 times earnings today. That suggests another 30% decline from here to reach the typical trough valuation multiple.

Evie also noted that it's very rare for the Federal Reserve to be increasing interest rates during a bear market. The last time the Fed hiked during a bear market was in March 1974, when the S&P 500 was down 22% from its peak. The selloff continued for another six months, to a trough 48% decline.

Read the rest of Evie's report here