14 February 2018
Bull markets do not end this way. The recent sell off indicates abundant new highs ahead. Corrections are predictive.
The FTSE 100 has just had its worst one-month stretch in years. The US’s S&P 500 lost 10 per cent off new highs in mere days. If frightened, get optimistic. If you have cash earmarked for stocks, buy now.
These violent two weeks are model-conforming correction-type shocks. They are jarring, but normal within bull markets. Corrections come and go without warning, often for no reason. The rollercoaster could last a few days or weeks more. Or it could end tomorrow. It is nothing but swinging sentiment. Investors’ emotions are volatile and unpredictable.
Corrections leave as quickly as they arrive and do not become big bear markets, which start slowly, softly and quietly. Using the S&P 500’s 92-year daily history, we have had 49 episodes that, top-to-bottom, breached 8 per cent but ultimately fell less than 20 per cent. They have lasted roughly one to eight weeks.
The FTSE All-Share had 21 corrections in the past half century. All ended quickly and were soon forgotten. It’s like ripping off a Band-Aid — it stings briefly, but then you’re fine.
It may be hard for most to fathom, but this pullback is not extraordinary. It may feel that way because the prior 14 months were abnormally calm, with zero days down 2 per cent or worse. But big down days are normal.
US markets have had 52 of those down 2 per cent-or-nastier days during this bull market. The FTSE All-Share has had 63. Even the S&P 500’s 4.1 per cent “cliff” on February 5 — the worst day in years — was just the sixth worst inside this long bull market. Recency bias makes folks forget.
If you’ll pardon an analogy, bull market volatility is like a mountain hike. The trail never goes straight up to the peak — there are always short dips along the way, sometimes steep rocky ones. You just have to keep your footing and let the trail take you where it’s going.
Real bear markets are long, bigger declines exceeding 20 per cent with big, bad real world outcomes — such as recessions or global wars. They begin softly, fooling folks with the calm before the storm. Legendarily, “bull markets die with a whimper not with a bang”. No early announcement effect. No foretelling swoon off the top. They hide in silence unseen to most.
Bear markets are born on euphoria, grow on grinding economics, mature on recession and die on panic. They begin gently, like a soft downhill stroll.
They lure folks too fearful to tread before, seeing the mild pullback as their buying opportunity. They plunge later on. Typically, about two-thirds of any bear market’s percentage drop comes in its final 30-40 per cent of many months. The first few months are minor at most. That quiet is what to fear. Today is anything but quiet.
Those selling after big sudden drops think they are avoiding bear markets. Taking action probably feels good. But it is self-harm. Likely, they miss the recovery and get whipsawed. To avoid the worst of a bear market, you needn’t anticipate or see it fast. Take several months to ponder whether any pullback may be a real bear. If it’s a correction, stocks probably rebound while you ponder.
My 1987 book, preceding that year’s epic crash, introduced my “three-month rule”. It dictates never declaring a market peak until three months afterwards. I haven’t seen all bear markets correctly, but my three-month rule has always held for global stocks — including famous years widely mythologised as sheer cliffs — such as 1929 and 1987. People forget that slow rolling tops precede the mayhem.
During corrections, everyone scrambles to justify causes. By the time they agree, it’s all over.
Their supposed “cause,” later sounds crazy, such as Chinese stock market circuit breakers in January 2016. How could that possibly cause any kind of global breakdown? But as the story runs — parallel to panic — it can’t absolutely be proven imaginary.
It is hard to accept such swift, broad price swings lack fundamental causal factors. Believe it. Like Ben Graham said: markets are voting machines in the short term and weighing machines in the long term. Near-term returns are popularity contests. Only long-term moves, when markets weigh fundamentals, have identifiable causes.
Where sentiment will push prices next week, or month, is impossible to know. But February isn’t how bear markets start. If it isn’t a bear, it’s a bull. Patient, diversified, owners of big, high-quality stocks should see happier times ahead in the bull market’s next up-leg.
Ken Fisher is the founder and executive chairman of Fisher Investments and chairman and director of Fisher Investments Europe.
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