RealTMOR Asset Mgmt LLC and RealTMOR Apartment Mgmt LLP
Start of A Bull Market OR A Bear Market Jump?
How have the equity markets fared for 2023?
By definition, a bull market starts once the markets go 20% above their most recent lows. There are other variations such as the 20% increase could occur in a certain time frame, mostly, 2+ months or so, or the 20% increase could be reached after 2 sets of lows. But the important part is that the start of a bull market is mostly established “after the fact” and involves a 20%
increase from the prior lows. The most recent lows reached for the Dow, S&P 500 and the Nasdaq were in September 2022.
In contrast, the Nifty 50 (India) never went down to Bear market levels or hit “material lows” in 2022 and currently is close to its all-time highs.
This trajectory seems like it has a bias towards the upside and various momentum indicators like RSA indicate strong momentum towards the upside, in June 2023. RSA values over various time intervals for the S&P 500, like 14, 20, 50, 100 days are all above 55% and the shortterm numbers are around 70%-75%, at this time. The markets are rising with above average trading volumes. Overall, technical indicators have a positive bias.
The other, more qualitative, saving grace is that the markets have been subjected to a lot of uncertainty and risks over the current quarter. In terms of Fed hikes, yield curve inversions, two quarters of negative GDP growth, trajectory of the inflation index, employment data, volatility in commodities prices, falling corporate earnings forecasts BUT the market has absorbed all this and has still moved up. Further, the range of the length of an equity bear market, using data over the last few decades, is around 12-24 months with an average time being around 14+ months or so. For most US equity markets, the peak was reached around Q4 2021 to Q1 2022, hence we are roughly around 12-15 months into a bear market.
Is there a Key Event happening at this time?
There are bull runs and then there are “Bull Runs”. There have been sustained game changers in our economy from time to time and the periods corresponding and subsequent to those events are periods of major wealth generation and upheavals ie “Bull Runs”. There are initial frenzies (almost bubble like growth trajectories) those are followed by bubble bursts and then there is a more measured growth and a measured bull run which may result in winners that may not have been winners in the initial frenzy phase. The major game change events over the decades have been associated with the auto industry (including efficient manufacturing), commercial air travel, the advent of consumer electronics, the computer age (the advent of IBM supercomputing), PCs, and the internet age (includes the web, ecommerce etc). Crypto may or may not be that event and currently we could be at a cusp in terms of AI or renewables. Investors are now talking about the Magnificent Seven which includes, MSFT, GOOGL, AAPL, TSLA, NVDA, META and AMZN.
Alternatively, we may just experience a bull run after a sustained bear market because the market has navigated/negotiated the down draft and is now “moving up”. The current upswing is most pronounced in the large cap tech stocks and there seems to be a rotation out of defensive stocks like large healthcare stocks or large consumer stocks into the big techs. Certain large pharmaceuticals, biotechs and consumer stocks were on fire during the deflation that happened in technology stocks throughout 2022. The winning healthcare and consumer stocks were the ones with great products and strong cash flow potential like MRK, REGN, LLY, ABBV, WMT, PG etc. The current price action (rotation) between the large techs (strong upward moves) and the large pharmaceuticals/ consumer stocks (some weakening) is indicative of an overall “risk-on” mood. The small and mid-capitalization stocks are currently not participating in the “bull run” at this time. That indicates a potential for appreciation in these sectors as the rally gathers steam.
The current Fed Funds rate is 5.0% to 5.25% which the Fed left unchanged in June. The Fed has indicated that there could be two more rate hikes (25bps each) during the rest of 2023. Since March 2022, the Fed has enacted 10 rate hikes and raised interest rates up from 0% -0.25%. The ECB did not follow the Fed’s cue and continued with its June rate hike. These are very significant moves but the market has absorbed this and has scaled up towards its all-time highs AND that should be an optimistic signal. 30-year fixed rate mortgages are around 6%-7% or so and home prices have shown some signs of weakening until the last two months or so. The weakening of both home prices and rents is more pronounced in the western half of the country. As housing costs come down, the inflation picture improves. Effects of high mortgage rates on residential real estate need some time to play out. Overall, the real estate market may show some weakness for some time but its trajectory has an upward bias. Commercial real estate prices are also weakening and occupancy rates of certain sectors, especially offices and malls are not encouraging. Commercial real estate weakness has an adverse effect on loan books and overall health of banks/ financial institutions. During H1 2023, there were multiple bank failures and significant turmoil in the financial markets but that has been absorbed and the financial sector may be better positioned now.
Currently, the S&P500 (based on public sources) is trading at a basic PE of 23.0x +/-. In a historical context over the last 7 years or so, this is not considered to be very highly over or under valued. Most of the periods since 2014, except for a period during 2020 and 2021, the PE ratio was mostly in a range between 19.0x to 24.0x. In inflation adjusted terms, there is some slowing down of the EPS of the S&P 500 from the last 2 years but the EPS numbers are above medium to long term averages. Some slowing down is expected because of the measures taken by the Fed and is actually warranted/ expected. Many participants point to that trend and point to the current rally as a “Bear Trap” or a “Bear Market Rally” which will end soon. That could definitely be the case but seems a less likely scenario.
Also, the Fed has been and is trying to engineer a “soft landing” in terms of a recession. At this time, based on the markets’ behavior it seems the markets believe that the “soft landing”, if it happens, would probably not happen in 2023. Also, the market seems to believe that if the Fed engineers a recession, it would NOT be wholly chaotic and very painful. The US economy / The Fed may be able to engineer decreased inflation without a doomsday scenario. Lastly, commodities prices have been range bound and not created significant volatility and disturbance. Commodity prices seem to be in a pattern which could result in a better inflation picture.
How does it look?
So, at this time, it feels more likely that we are at the start of a bull run than in a bear market rally which could end soon. This can be proven as true or false only later. Being in a bull market does not mean that the markets would not come down, or that the markets could not come down in a “technical correction” phase. All that could happen. Qualitatively, this feels like an economy / market which has priced in potential negatives and expects to see inflation parameters improve without significantly impacting consumer sentiment or creating economic/ market turmoil. Further, S&P 500 VIX is currently trading at levels close to 2019 levels and has been on a downward trajectory over the last 9 months or so. It made a few peaks in 2022 but remained in the early 30s or so. Currently, it is trading around 14 or so. Gold prices peaked around March 2023 but have been weakening since.
If one has to create a market position at this time, it would better serve an investor to be positioned with a bullish bias. The more prudent position would be to assume that we are in a bull cycle and over the next 6-12 months the rally could become broader and include more companies, sectors, (including mid and smaller capitalization companies) outside of the big tech. Within the next 12 months or so we would get more clarity on AI and the potential type of impact it will have on the markets going forward. So, if/as the rally becomes broader, to include other sectors or companies (including mid and smaller capitalization companies) the bull run will be more pronounced and “proven”.
It feels more likely that we could make new highs and take out the previous all-time highs in the US vs. make new lows! Pull backs in the markets are very possible and probable. No Bull Market is a straight line moving up and up, there will always be down days, down weeks etc. I believe, the most probable scenario is that we could make “new highs”, over the next few months, but we could also have a “technical correction” or a pullback which we could recover from and then move up again.
In India, qualitatively, the market feels like a Bull Market. It is actually close to an all-time high and there is a sense of economic optimism. The RBI has instituted various measures to cool down inflation such as rate hikes and increase in reserve ratios for banks. The big risk facing India is its “bad loans”, both current and future, and the way that risk is navigated. The Indian Rupee has a steady decline but that decline is not drastic or out of the ordinary. The Philippine market seems further behind other markets in terms of being ready to be in a Bull Run. But, overall, the Philippine market is a somewhat more illiquid market and it will follow cues from more established markets. The Philippine Peso has been weakening and would need to demonstrate some strength to create more confidence in the Philippine markets.
CONCLUSION:
So, there is a strong possibility that we are at the start of a new equity Bull market vs. a Bear market jump. It is too early to fully understand the promise of AI and how that would play out in terms of stock market returns. Being positioned for a Bull Market without being overly aggressive but being well diversified in terms of sectors, geographies etc would be sensible.