Even the Best Defense Isn't Ouchless


By Sam Stovall If July 23 marked the bottom of the 2000-02 bear market, which lasted 28 months and saw a 47.8% plunge in the value of the S&P 500, it would go down in history as the second longest -- and the second deepest -- equity mauling since World War II. The bear market of 1946-49 was the longest at 36 months, while the 1973-74 bear market was the most severe, resulting in a 48.2% decline for the broader market.

And as in earlier market declines, many investors rotated into the traditional "defensive" sectors of the market -- such as consumer staples (often known as the "eat 'em, smoke 'em, and drink 'em" stocks), health care, and utilities. Investors know that these market segments tend to hold up best when the economy and stocks go into a tailspin. The reason? The very nature of these products and services means demand for them is fairly constant. Whether times are good or bad, people still eat, smoke, drink, run their vacuum cleaners -- and get sick.

LOSING LESS IS BETTER. But what investors frequently forget is that these sectors are called "defensive" not because they rise in price during bear markets, but because they lose less than the market in general, or economically sensitive sectors in particular. Take a look at the table below, which shows the average percent change of the underlying industries that make up the 10 sectors of the S&P 500. (The "Average Percent Change" for the S&P 500 doesn't equal the average of sector performances, since sector results are simple averages of underlying industry performances, while the S&P 500 itself is a market-weighted average.)

This study clearly shows that no sector is immune from the effects of a bear market. The traditional "safe havens" did hold up best: Consumer staples, health care, and utilities posted average declines of 10%, 13%, and 23%, respectively, outperforming the broader market. The hardest-hit groups, not surprisingly, were the economically sensitive areas of consumer discretionary, industrials, information technology, and telecommunications. (Telecom used to be considered "defensive" when it was dominated by staid, high dividend-paying AT&T and the Baby Bells.)

Even more enlightening, though not displayed in the table here, is that of the 54 industries in the S&P 500 that date back to the late 1960s, only one -- gold -- posted an average increase (+3.6%) during the past five bear markets. All others recorded average drops ranging from 4.5% for alcoholic beverages, 8.4% for medical products, and 10.5% for tobacco, to declines of 40% to 46% for hotels, savings & loans, and homebuilders.

STEPPING BACK. So the moral of the story is that investors shouldn't blame themselves for rotating into havens during bear markets only to see their portfolio's value decline. They should remember that: 1) bear markets happen about every 50 months (every 4 years or so), 2) they strip an average of 35% off the market's value from its peak, and 3) they take nearly every sector and industry with them.

But if investors are looking for something positive to take away from all of this, they should also note that bear markets last only an average of 15 months. And ultimately, the steep decline resets share prices and valuations to levels that allow for future investment opportunities.

Sector/Industry Performances During Bear Markets 1968 - 2002

Avge. % Change

3/00-7/02

7/90-10/90

8/87-12/87

11/80-8/82

1/73-10/74

11/68-5/70

S&P 500

-35.4

-47.8

-19.9

-33.5

-27.1

-48.2

-36.1

Consumer Discretionary

-31

-39

-25

-30

9

-53

-46

Consumer Staples

-10

18

-10

-23

18

-50

-10

Energy

-27

-22

-3

-28

-51

-19

-40

Financial

-27

-21

-28

-30

-2

-51

-30

Health Care

-13

-20

-8

-26

12

-40

Industrials

-31

-32

-25

-28

-17

-44

-36

Information Technology

-34

-79

-26

-23

-20

-40

-19

Materials

-19

-16

-19

-23

-29

2

-27

Telecommunications Services

-32

-74

-8

-14

--

--

--

Utilities

-23

-42

0

-19

-10

-43

-25

Stovall is chief sector strategist for Standard & Poor's


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