Cyclical Bull, Secular Bear

The title of today’s blog entry has become cliché but it holds true. We are in a lengthy period of “resting” in the stock market in which the indices consolidate the gains of the prior 18 year bull run. Markets sell off aggressively, base, rally aggressively and then repeat.

We have been in a secular bear market since the NASDAQ topped in March 2000. There have been cyclical bull periods during this time, most notably in 2003, 2006-7 and this year. But the indices have gone literally nowhere. This is the calling card of a secular bear market such as we had from 1966 – 1982 per the Dow chart shown below, reprinted with permission of Telechart.com.

Why do we bother to mention this? To remind readers that in spite of the exhilarating rally we have witnessed this year we are not in a period similar to the 1950’s or 1990’s. It would be a mistake to assume that the market will embark upon a constructive consolidation only to continue higher in a few months time. While the secular bear markets of 1929 - 1942 and 1966 - 1982 featured a number of second legs higher after strong bull moves there were even more instances of sharp rallies being followed by excruciating periods of choppy sideways trading or renewed sharp declines.

How then to gauge the current situation? For anyone but day traders it’s watch and wait. And there will be plenty to watch for this week.

We’ll be most interested in how the market responds to news. We recently reminded readers that in the current environment news will work in favor of the bears, as all but the best news will now be interpreted as bad. Witness the selling after the release of the GDP report last week. Rather than 3.5% growth being interpreted as a good sign all we could hear were reactions that this was stimulus engineered growth that would have no lasting power to drive the economy, and thus the markets, forward.

We will be watching to gauge the markets’ reactions to the ISM index today and the October jobs report on Friday. The market has been well warned to expect the unemployment rate to exceed 10% and it will be interesting to gauge the reaction if we finally cross that threshold.

We’ll also be interested to see how company and sector specific news pans out. Will animal spirits flow in the energy sector off Denbury’s (DNR) acquisition of Encore (EAC)? We have repeatedly discussed energy’s leadership role late in the recent bull market and covered it in depth on our sister blog as a sector that should be monitored for opportunity.

And will CIT’s bankruptcy filing further depress the financial sector?

Beyond all of this the FOMC will release a statement after their meeting on Wednesday. We have long been of the opinion that the bull market will not truly end until the Fed ends its easing policy. While they have clearly signaled that interest rates will remain unchanged the market’s reaction to any change in the course of quantitative easing will be telling.

On the negative side of the ledger is the retreat from risk that we are witnessing. This is most clearly illustrated by the failure on Friday of AEI’s IPO to price. We believe this was the most important story of the day but it received little coverage. It was just a few weeks prior that IPO’s were pricing well. Now they are being viewed with suspicion, especially private equity issues like AEI that are seen as little more than exit strategies ladled with debt with little appeal to new shareholders.

Finally we’ll continue to watch with interest the fate of Apple’s (AAPL) stock. Sorry if we sound like a broken record but this was the most liquid institutional leader of the rally and if cannot hold up we believe little else will.