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After posting a negative 10-year return—as the S&P 500 did in October—the market tends to move sideways for an extended period
From Standard & Poor's Equity ResearchFrom its recent closing low of 752 on Nov. 20, until its 909 closing high on Dec. 8, the Standard & Poor's 500-stock index rose nearly 21%. And since a 20% gain off of a bear-market bottom is the traditional signal of the start of a new bull market, we can rejoice that the worst is over. Right? Well, maybe.
Since 1945, there have been 10 bear markets. In all but one, a 20% advance was eventually proven to be the start of a new bull market. This was even true in October 2002, when the S&P 500 bottomed at 777, rose more than 20% in early December, only to throw us into a nail-biting retest of the prior low by falling to 800 in March 2003.
The only time since World War II that we experienced a 20% advance that proved to be a rally within a bear market, and went on to set an even lower low, was following the September 11 attacks, from September 2001 through January 2002. But with 10 other 20% advances correctly signaling the start of a new bull market, the odds favor that a baby bull has been born. Those still in doubt can always point to the 1930s, when 20%+ rallies more frequently occurred within the confines of a continuing bear market.
If this is the start of a new bull market, however, I wouldn't expect it to be anything more than a cyclical or short-term bull, within a secular or long-term, bear market. Why? In October, we recorded our first "Lost Decade" in more than 30 years, which traditionally has pointed to a series of cyclical bulls leapfrogging cyclical bear markets in an extended period of sideways action for stock prices.
A Lost Decade
I've lost a bet, and I've lost my keys, but I've never lost a decade—until now. I've frequently heard that if you give equities long enough, they always post positive returns. After suffering through a 52% bear market during the past 13 months, I wonder how long the average holding period must be in order for this old adage to remain true. One thing I do know is that it's not 10 years!
There's one good thing to be said about having slipped into negative territory on a rolling 10-year basis, however. If history is any guide, the worst is likely behind us. Since 1923, we have had three periods in which the rolling 10-year performances for the S&P 500 rose, three in which they declined, and two in which they went sideways. As always, history is a good guide, but never gospel.
During the periods in which the rolling 10-year returns were rising, the S&P 500 posted an average annual increase of 15.3%. What's more, only 19% of all single-year returns within these periods were negative. On the other hand, during the years in which the rolling 10-year returns were falling, the average annual returns were a minus 8%, and 59% of all single-year results were negative. During the sideways periods (those years in between the rising and falling periods), the S&P 500 rose an average 9.4% and posted single-year declines only 34% of the time. The results for these sideways periods compare favorably with the average results of all years from 1923-2008, in which theS&P 500 increased 7.4% and posted single year declines 33% of the time.
Cyclical Bulls in a Secular Bear
Granted, the observations are few, and there is no guarantee that theS&P 500's price performances will be equal to or better than long-term market averages during the coming years in which theS&P 500 will likely move sideways on a rolling 10-year basis. What's more, I expect the rolling 10-year price change for the S&P 500 to worsen into early 2010, as we get closer to the Mar. 24, 2000 high in the S&P 500. But for me, this historical look back is better than nothing.
But this game of bull/bear leapfrog is nothing new. We experienced a similar rotation of cyclical bulls and bears from 1966 to 1982, in which the Dow Jones Industrial Average flirted with the 1,000 level. This 16-year period incorporated the tail end of a declining 10-year rolling period for the S&P 500, as well as its subsequent sideways period in which the S&P 500 saw four cyclical bull markets interrupted by five cyclical bears before equities started their 18-year secular bull market in 1982.
Sector Leaders and Laggards
During these cyclical bull and bear periods, it should come as no surprise that the traditionally defensive Consumer Staples, Health Care, and Utilities sectors held up best during cyclical bear markets. The subindustries in the S&P 500 Consumer Staples, Health Care and Utilities sectors declined less that the average of all industries in the S&P 500 (S&P 500 sector index data extends only to 1990) and, in most cases, posted above-average frequencies of beating the average of all industries. Not surprisingly, the cyclical Consumer Discretionary, Financial, Industrials, Information Technology and Materials sectors posted sub-par performances and frequencies of beating the overall market. The Telecommunications Services came into existence in the mid-1980s after the breakup of AT&T.
During the bull cycles, however, the opposite was true—the cyclical sectors took the lead, while the defensive groups took a breather. In all bull phases, returns were positive. The subindustries within the S&P 500 Consumer Discretionary, Energy, and Information Technology sectors recorded the best returns and frequencies of outperformance, with the Health Care group receiving honorable mention.
Today, S&P's Equity Strategy group is maintaining its recommended overweighting of the S&P Consumer Staples, Energy, Health Care, and Telecom Services sectors, and a suggested underweighting of the Consumer Discretionary and Industrials sectors. We monitor these weightings on a continual basis, incorporating underlying fundamental analysis (S&P equity analyst STARS), technical factors, historical perspectives, and other current market considerations.
Industry Momentum List Update
Here is this week's list of the subindustries in the S&P 1500 with Relative Strength Rankings of "5" (price changes in the past 12 months that were in the top 10% of the S&P 1500), along with a stock that has the highest S&P STARS (tie goes to the issue with the largest market value).
Subindustry Company Ticker S&P STARS Rank Price (12/12/08)
Biotechnology Genzyme GENZ 5 $65
Brewers Molson Coors TAP 4 $46
Education Services Devry DV 4 $55
Environmental & Facilities Services Waste Management WMI 4 $30
General Merchandise Stores Dollar Tree DLTR 4 $42
Health Care Services Laboratory Corp. LH 4 $62
Home Improvement Retail Lowe's LOW 4 $22
Household Products Procter & Gamble PG 5 $59
HyperMarkets & Super Centers Wal-Mart Stores WMT 5 $55
Insurance Brokers Aon Corp. AOC 4 $41
Integrated Oil & Gas Exxon Mobil XOM 5 $80
Packaged Foods & Meats SJM 5 $41
Restaurants McDonald's Corp. MCD 5 $61
Water Utilities Aqua America WTR 3 $19
Source: Standard & Poor's Equity Research