Selloff puts Dow, S&P 500 on the cusp of a bear market. History says more pain may be ahead.


History shows that when the S&P 500 enters a bear market, it tends to stay there for a while.

Back-to-back declines left the SPX large-cap benchmark,
down 18.7% from its high on Jan. 3 on Thursday, closing at 3,900.97. A 20% drop from a recent high is the traditional definition of a bear market. That would require a close below 3,837.25, according to Dow Jones Market Data.

The Dow Jones Industrial Average DJIA,
is not far behind, ending at 31,253.13, 15.1% below its record close on January 4. A finish below 29,439.72 would place the prime gauge in a bear market.

Admittedly, many investors and analysts view this 20% definition as too formal, if not outdated, a measure, arguing that stocks have been behaving bearishly for weeks.

So far, 61% of individual companies in the S&P 500 are in bearish territory, observed Mike Mullaney, director of global markets research at Boston Partners.

“We’re sort of there, but it hasn’t shown up in the general index yet,” he said in an interview on Thursday.

And note that if the S&P 500 were to close below the threshold in the coming days, the start of the bear market would be backdated to the January 3 high. A bear market ends once the S&P 500 rises 20% from a low.

OK, so what does history say about what happens once a bear market begins?

There have been 17 bear markets – or near-bear markets – since World War II, said Ryan Detrick, chief market strategist for LPL Financial, in a Wednesday note. Generally speaking, the S&P 500 must have fallen further once it started. And, he said, bear markets have, on average, lasted about a year, producing an average peak-to-trough decline of just under 30%. (see table below).

LPL Search

The steepest fall, a peak-to-trough decline of nearly 57%, occurred during the 17 months that marked the 17-month bear market that accompanied the 2007-2009 financial crisis. The longest was a 48.2% decline that lasted nearly 21 months in 1973-74. The shortest was the nearly 34% decline that took place in just 23 trading sessions as the onset of the COVID-19 pandemic sparked a global rout that bottomed out on March 23, 2020 and has marked the start of the current bull market.

The S&P 500 approached bearish territory last week before a strong rebound on Friday the 13th that halved its weekly losses. Another big bounce was seen on Tuesday, but gains were more than wiped out in the next session after disappointing results from retail giant Target Corp. TGT,
highlighted concerns that inflationary pressures are beginning to weigh on margins.

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Earnings from Target and, a day earlier, Walmart Inc. WMT,
“I fear that bad things are starting to happen in the US economy,” Tom Essaye, founder of Sevens Report Research, said in a Thursday note.

“Namely, that the duration of high inflation has infiltrated the low-income cohorts of the economy, and they are now reacting, quickly. And as inflation remains high and the economy slows, this will increase the distribution of revenue, and the concern is that the margin issues TGT and WMT are facing will spread to other parts of the retail space and to the market more broadly,” Essaye wrote.

Boston Partners’ Mullaney worries that Wall Street analysts haven’t yet caught up to the danger. While earnings expectations for emerging-market companies and broader developed-market indices have fallen, that’s not the case for the S&P 500, he noted. This indicates that analysts covering the S&P 500 are “behind the curve,” which could be one of the last shoes to drop.


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