When Does a Bear Market Rally Become a Bull Market?

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Back in June, we talked about how a rally can happen in the middle of a bear market. Although the general trend of the market is down, naturally there are periods in which it returns. Then in August we warned of the signs for when such a rally would end. And during September markets trended lower and found a new bottom at the end of the month.

But, since the beginning of October, US indices have generally traded higher. It wasn’t an even rally, with the DJIA having a much better performance than the Nasdaq, for example (and the S&P kind of splitting the difference). But after the Dow spiked above the summer highs, it’s starting to raise the question of how long the current trend will last. Especially as we enter the end of the year.

Where do we go from here?

Usually, the last two weeks of the year give extra buoyancy to the markets in what is known as the “Saint Clause Rally”. Typically, after the Fed’s final interest rate decision for the year in the middle of the month, most major traders take a break. The limited liquidity contributes to higher volatility, but also smaller traders tend to be more optimistic.

As December is about to begin, we are running out of time for another bear market before the holidays. So, does this mean that markets are likely to continue rising from now on? Or, at least until the end of the year? And does that mean the bear market is over? How close should we stay to the definition?

Draw conclusions from the ups and downs

“Bear” and “bull” markets are more about directionality. But the market fluctuates a lot, so there needs to be some sort of separation between the market going down temporarily, or entering a longer-term trend. Usually a 20% mark is used, but it is more of a guideline than a strict rule. If the market is down 20% from its last high, it’s safe to say it’s in a bear market. Conversely, if it goes up 20% from its most recent low, it is generally considered a bull market.

Since hitting its lowest point on October 13, the DJIA has rallied 19.5% year to date. Which, if it continues to rise, puts it technically in range of being a bull market. The problem is, of course, that the general trend has been down. And with most economists predicting a recession next year, there is every reason to expect the index to resume its downward trajectory. In other words, don’t set up a business based on a technicality of definition.

The bigger the rise, the bigger the fall?

The Dow outperforms other indices, especially the Nasdaq, which gives us some insight into the dynamics. Since the Fed started hiking, there has been a widespread movement toward value stocks, and away from tech stocks, which are seen as riskier. This means that even when the market moves higher, it is because those who dare to buy are doing so in defensive, relatively “safe” assets.

Since the Nasdaq hasn’t rallied much at all over the past two months, it doesn’t have much “correction” to make. But if the Fed were to disappoint, or another risky event were to come before then, traders could very quickly withdraw that tentative toe they had dipped into the safest part of the stock market.

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