Bloomberg News

Bear Market Engulfs Dow Transports, Russell 2000 Loses 25%

August 09, 2011

(Updates with today’s trading in seventh paragraph.)

Aug. 9 (Bloomberg) -- Declines in smaller companies and transportation stocks yesterday brought losses since their 2011 peaks to more than 20 percent, signs that investors anticipate another U.S. recession.

The Russell 2000 Index plunged 8.9 percent yesterday, the biggest drop since December 2008, bringing its decrease since April 29 to 25 percent. The losses were led yesterday by MGIC Investment Corp. and General Maritime Corp., which slid more than 39 percent. The Dow Jones Transportation Average slipped 7 percent, marking a 22 percent retreat from its high on July 7, as Con-Way Inc. and Ryder System Inc. slumped 12 percent.

Analysts say the declines may foreshadow a contraction because trains, truckers, airlines and smaller companies are considered barometers for the economy. Dow Theory, developed by Wall Street Journal co-founder Charles Dow in the 1800s, says transportation companies lose business before gross domestic product slows. Small-caps depend on the U.S. for more sales than Standard & Poor’s 500 Index companies and have fallen prior to recessions in the past.

“This is another indicator that the economy is slowing,” Walter “Bucky” Hellwig, who helps manage $17 billion at BB&T Wealth Management in Birmingham, Alabama, said in a telephone interview yesterday. “If there’s an economic slowdown, that means pressure on earnings estimates going forward, so the other sectors follow suit and the market will likely fall further.”

Bear Market

The Dow transportation average lost 20 percent from its 2007 high in July through its low in November that year, the common definition of a bear market. The U.S. entered a recession the next month that lasted until June 2009, according to the National Bureau of Economic Research.

The Russell 2000 declined 13 percent in the same period and slumped 7.3 percent in November 2007, at the time the worst monthly performance since September 2002, data compiled by Bloomberg show. The S&P 500 reached its record high on Oct. 9, 2007, and didn’t enter a bear market until 2008, data compiled by Bloomberg show.

The Dow transportation average climbed 4.5 percent to 4,561.13 at 4 p.m. today in New York, bringing its loss since July 7 to 19 percent. The Russell 2000 added 6.9 percent to 696.16 today. The S&P 500 rose 4.7 percent to 1,172.53, curbing its losses since July 22, on speculation the Federal Reserve will act today to restore confidence in markets.

U.S. Revenue

Russell 2000 stocks, which have an average market value of $610 million according to Bloomberg data, rely on the U.S. for about 80 percent of their revenue. That compares with 67 percent of sales for members of the S&P 500, according to Bank of America Merrill Lynch. Shares in the larger-company gauge have a mean market cap of $21.7 billion.

Stocks around the world have been tumbling, with the MSCI All-Country World Index down 16 percent from July 22 through yesterday. Europe entered a bear market yesterday when the Stoxx Europe 600 Index slid 21 percent from the high in February. Brazil’s benchmark equity index has tumbled 32 percent since Jan. 12, its 2011 peak.

S&P lowered the U.S. long-term rating one level to AA+, from AAA, after markets closed on Aug. 5, citing less confidence that President Barack Obama will compromise with Congress to cut the deficit and end Bush-era tax cuts. S&P’s decision was at odds with the other two main ratings companies, Moody’s Investors Service and Fitch Ratings. Moody’s reiterated its top Aaa rating for the U.S. yesterday, citing the dollar’s status as the main reserve currency.

GDP Growth

Economists estimate U.S. GDP will rise 2.5 percent in 2011, down from forecasts of 3.2 percent earlier this year, according to the median estimate of 63 respondents in a Bloomberg survey. The economy expanded at a 3 percent rate in 2010, Commerce Department data show.

Investors retreating from stocks have poured money into traditional havens such as government bonds. Treasuries surged yesterday, pushing 10-year note yields to the lowest level since January 2009, while gold futures for December delivery climbed $61.40, or 3.7 percent, to settle at $1,713.20 an ounce, the biggest gain since March 19, 2009. The Swiss franc climbed to a record 74.85 centimes to the dollar.

S&P 500 Performance

While the S&P 500 is still up 65 percent since the bull market began in March 2009 and had doubled through the end of April, the index has plunged 17 percent since July 22, wiping out about $2 trillion in equity value. Speculation about the impact of a U.S. credit downgrade and the slowdown in the nation’s manufacturing and consumer spending overshadowed better-than-estimated profit growth.

Companies in the S&P 500 that have reported second-quarter earnings since July 11 have beaten estimates by an average 5.1 percent, according to data compiled by Bloomberg. Profits are up about 18 percent from last year’s second quarter and sales increased 13 percent, the data show. While the S&P 500 is forecast for 18 percent earnings growth this year, analysts project the Russell 2000’s profits will grow 40 percent to $35 a share, according to data compiled by Bloomberg.

“The bear market reflects that people doubt that that’s going to be the case,” Steven DeSanctis, the chief small-cap strategist at Bank of America Merrill Lynch, said in a telephone interview yesterday. “Small-caps are much more U.S.-focused, U.S.-economically sensitive, so when the U.S. economy does poorly, the smaller companies’ earnings numbers come down more dramatically than the large caps.”

AMR, CSX

AMR Corp., the parent of American Airlines, is down 38 percent since July 7. The Fort Worth, Texas-based company posted earnings and sales last month that fell short of analyst estimates, data compiled by Bloomberg show. A deterioration in consumer confidence and the economic outlook is putting third- quarter airline earnings under pressure, posing a “worry,” the International Air Transport Association said Aug. 3.

CSX Corp., the biggest eastern U.S. railroad, had its rating cut to “neutral” from “outperform” yesterday by Robert W. Baird & Co., which said “investors have become increasingly concerned about the sustainability of the current economic recovery.” The Jacksonville, Florida-based company has lost 16 percent this month, data compiled by Bloomberg show.

BioMimetic Therapeutics Inc., an orthopedic drug-device company in the Russell 2000, has plummeted 80 percent since April 29, the second-worst of all stocks in the index. The Franklin, Tennessee-based company missed analyst sales projections last quarter by 18 percent. Russell 2000 stocks have been beating forecasts by 2.4 percent, Bloomberg data show.

Aeropostale’s Sales

Aeropostale Inc., which depends on the U.S. for 94 percent of its revenue, said earlier this month that comparable sales last quarter fell 14 percent. The teen-clothing retailer has fallen 54 percent since April 29.

U.S. stock funds saw $8.8 billion in net outflows in the week ending July 27, according to estimates from Washington- based Investment Company Institute. Investors have been pulling funds from equities every week in July and took out $20.8 billion in June, the biggest month of outflows since October 2008. Bond funds got $12.9 billion that month, ICI data show.

“We’re seeing a flight to quality out of stocks, into bonds and into gold on the fear of a potential and much more significant reality of double-dip recession,” Richard Weiss, a Mountain View, California-based senior portfolio manager at American Century Investments, who lowered his small-cap holdings a few months ago, said in a telephone interview yesterday. His firm oversees about $108 billion.

“There’s a deceleration,” Weiss said. “It’s arguable whether it’s going to pull us into recession territory, but the markets are clearly falling on the economy.”

--Editor: Joanna Ossinger, Chris Nagi

To contact the reporter on this story: Whitney Kisling in New York at wkisling@bloomberg.net.

To contact the editor responsible for this story: Michael P. Regan at mregan12@bloomberg.net.


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