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Is this just a bear market rally?

Bear rally thought piece

For financial professionals only

As investment banks race to downgrade GDP growth forecasts and company earnings, financial commentators have been quick to flag that bear markets typically follow three phases:

  • the initial sell off as the adjustment/shock takes effect
  • a short covering ‘suckers rally’ or ‘dead cat bounce’ followed by profit taking
  • a fundamental downgrade-driven process, often associated with investors reaching a point of despair and ‘throwing the baby out with the bathwater’.

3-phases of bear markets

Source: Real Investment Advice, Advisor Perspectives

If you believe the Dow Theory that bear markets consist of three down legs with reflexive rebounds in between, are we simply now in Phase 2? And is this just a bear market rally?

A very different downturn

The challenge with comparing the current situation with historic bear markets is that this sell off is far from normal. The global health crisis, leading to successive governments around the world locking down their populations in a bid to quash the spread of the disease, is an extraordinary event.

What’s more, in response to the total halting of economic activity, there has been massive government fiscal support, Central Bank monetary easing, plus extended and, in the case of the US Federal Reserve, unlimited quantitative easing.

These measures are of a size and speed that have never been seen before.  As such, looking to history as a guide for how things will play out seems misplaced.

Yes, near-term macroeconomic news will continue to be horrific as the global shut down feeds through into the data – but market strategists’ talk of further downside to trough valuations feels overly pessimistic.

Firstly, the recession we are now in has been self-imposed. It is not caused by a tightening of policies to cap uncontrolled and unsustainable demand, which is the normal process leading to a recession.

Secondly, corporate and household balance sheets are in reasonable shape (in stark contrast to 2008/09) so once normality returns, activity will resume.

Thirdly, the financial system has already stabilised, and that is critical in supporting economic activity and confidence. For example, last week saw the largest ever issuance of primary US Investment Grade bonds.  For many issues, demand exceeded supply by over 600%.

Finally, and most importantly in the short term, governments are racing to outspend each other,  in stark contrast with 2008/09 when austerity and retrenchment ruled the roost.

In difficulty lies opportunity

As a result, current valuations offer medium to long term investors a fantastic opportunity.

Yes, markets will continue to be volatile as negative headlines continue. But as soon as the number of new cases peaks; as soon as testing kits (including antibody tests) become commonplace; when hospitals are proven to function despite high patient volumes; and when vaccine clinical trials are in progress, the window to get into markets will be tight.

For the committed, patient investor now is the time for investment discipline, not despair. These opportunities seldom come along.

To find out more about bear market cycles and where we are in the current cycle watch our covid-19 webinar on-demand.

Click here to watch the recording
‘Cause for cautious optimism?’ Covid-19 webinar



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