MARKET CORRECTION COULD BECOME A FULL-ON BEAR / BARRON´S MAGAZINE

Getting Technical

Market Correction Could Become a Full-On Bear

Technical indicators such as support levels and market breadth suggest it is nearly time to hunker down.

By Michael Kahn     
 

Pixabay

 

 

The terms “correction territory” and “bear market territory” really irk technical analysts. Who determined that a correction begins with a 10% decline and a bear market begins when a decline crosses the 20% threshold? And what good are those labels since serious losses have already been incurred?

I consider there to be two indicators that tell us when a bear market has begun. The first is when the benchmark index violates both long-term trendlines and key support levels. In November, I discussed here that the charts looked remarkably similar to those seen at the last market top in 2007. I followed that up in December showing the same condition, complete with confirming technical indicators, at the 2000 peak.

At both of those peaks, the major trendline drawn from the start of each bull market was clearly broken to the downside. That is the case today for the Standard & Poor’s 500 (see Chart 1). The trendline from 2009 is broken and the October rally successfully tested that breakdown. Part one – the trend break – is in play.

Chart 1

Standard & Poor’s 500

Part two – the support break – will occur if and when the index drops below its August low of 1867, to the nearest penny. With the index closing at 1890 Wednesday afternoon, it doesn’t have far to go.

The important point to make is that it will be about 11.5% below the last peak, seen in November, and more than 12% below the all-time high, set in May.

The second condition needed for a bear market is confirmation in the broad market. After all, the benchmark S&P 500, while tracking about 80% of the country’s market value, only looks at about 8% of the 6,000 stocks trading on the New York Stock Exchange and Nasdaq combined.

And that does not count penny stocks trading over-the-counter on the pink sheets and bulletin board.

Admittedly, this condition is subjective. There is no real research on what percentage of stocks needs to be falling, for how long and how much they need to lose. Even if we slap an arbitrary figure of 50% for the percentage of stocks falling and use the irksome 10% price decline threshold, it is easy to see how this condition has been met in today’s market.

Just take a look at the NYSE advance-decline line (see Chart 2). It peaked in April of last year.

And the Nasdaq advance-decline peaked in March 2014, although to be fair this indicator has a natural downward bias. The Nasdaq is home to some highly speculative companies that are more prone to failure.

Chart 2

NYSE Advance-Decline

The percent of NYSE stocks trading above their 200-day moving averages has been less than 50% since June. Think about that. More than half the issues on the NYSE have been below this key average for more than six months. And the NYSE composite index itself has been in decline since May, telling us that the average stock is already in a bear market despite the fact that the NYSE composite itself is “only” down 15% since then.

For me, almost everything is in place for the third cyclical bear market in the 21st century. And that also follows the road map of the 18-year secular market cycle I’ve seen in place since a century ago. If that is a correct assessment, then 2016 is year 16 in the secular bear market that began when the technology bubble burst in 2000.

A secular or long-term bear market can contain several cyclical or short-term bull and bear cycles. The 1970s is the last great example of a secular bear. And the 1982-2000 rally was the last great secular bull.

Some analysts say that a secular bull market began in 2013 when the S&P 500 breached the highs of 2000 and 2007, but I disagree. That said, I have no evidence that any coming cyclical bear market will be as severe as the prior bears or last as long. To me, a 16-year secular bear market is close enough to satisfy the requirement of the “average” 18-year cycle.

The bottom line is that the last straw will likely be breakdowns by the big-cap S&P 500, Nasdaq and Dow Jones Industrial Average below their summertime lows. At that point, it will be hard to argue for anything other than a significantly lower market later this year.