Sentiment & Mapping the Market

      The essential question of whether we are in a bear market secondary upwards correction or whether a new bull market began on March 10, 2009 is being vigorously debated by investment advisers, newsletter writers, and money managers. Obviously the valuations were not anywhere near classical low points at the March 2009 market lows from which the present market rose. However, I would certainly describe the sentiment around that time as "fearful and despairing" on the part of stockholders and even the non-investing segment of the population. Notwithstanding the recent improvement in economic data,  I would describe public sentiment right now (Jan 15, 2010) as very pessimistic about the economy with the public still avoiding new stock market purchases. Even many market analysts, money managers and economists who believe the stock market will continue to rise believe we are in a "secular bear market" in which the current price rise is only an "upward counter reaction". I personally don't believe we are in the early stages of a new "secular" bull market, but I think we could very well be in a "mini-bull" like the May 1970 to Jan 1973 market advance.
     This discussion will explore the subject of what is the difference between a "primary" and a "secular" bull market and also what is the difference between a bear market secondary rally and a mini-bull market. I will also touch on the distinction between secondary downward corrections and mini bear markets and the differences of both "minis" from a secular bear or bull market respectively. The Dow Theory will be the theoretical background I use to frame this equity market discussion, although it will not by any means be a rigorous Dow Theory interpretation of circumstances or events.
     A secular bull market is one that starts from low valuations and the valuations of which steadily rise toward high levels like Hamilton and Dow's incoming "tide of the ocean towards the shore line" over a lengthy period of time. Conversely, a secular bear market is one which begins from high valuations and the valuations of which steadily decline to an undervalued level, much as a "high tide recedes back out to the ocean" over an extended time period. In traditional Dow Theory terminology these tidal movements were called primary bull or bear movements, but the term secular bull or bear has gradually supplanted the term primary in this definition while primary has come to mean a strong and sustained price movement of lesser magnitude and duration than a secular one. But primaries are still characterized by Dow Theory mechanical bull and bear market signals in which both the DJ Industrials and DJ Transports advance to new highs for the move in the case of a bull signal or, in the case of a bear signal, both the DJI and the DJT decline to new lows for the move. If these primary price movements begin, in the bull market case, from classically low valuations, the primary bull is very possibly the start of a secular bull. If a primary bear begins from classically high valuations, it could well be the genesis of a secular bear.
     The market rallies of the of late 1960's and 1970's era lasted too long and went too far to be called merely secondary upward corrections, but did not last long enough or go far enough to be categorized retrospectively as "secular" bull markets (using today's terminology) so the term mini-bull was later coined to describe them. Under the Dow Theory usage of the time, they were considered primary bull markets, which would today still be the appropriate usage. The Dow Theory will invariably generate a mechanical primary bull market signal in the early phase of a mini-bull market. The 1974-1976 primary bull market began from extremely undervalued levels, so at the time it appeared to be the beginning of what would today be called a secular bull market. But such did not turn out to be the case because it was embedded in a different dynamic. It must be considered a classic mini-bull. That different dynamic was that the whole period from 1966-1982 is now referred to as a secular bear market because valuations over the period fell steadily from the beginning to the end of the period. Stock market prices also ended up lower but not proportionately as much lower as valuations because earnings rose during the latter part of the "cycle". In all of the above discussions it is important to remember that "valuation change" is not the same as "price change". Valuation change is one of the most powerful factors that drive price fluctuations.  When valuation is measured by price/earnings ratios,  price = valuation x earnings.
     The importance of all this labeling and categorizing is that it can inform us about the nature of the overall framework that today's price action is a part of. This, in turn, can provide us with clues about the potential duration and extent of the price movement that is presently in force. In a rally after a severe price decline we don't want to exit too early and miss a lot of the profitability nor do we want to linger too long and become trapped in the sudden resumption of the vicious downside action of a mini bear or secular bear. At a resting point in a decline after a strong price advance, we don't want to buy too soon and then discover that what we thought was a secondary downward correction is really a stage of a mini-bear, or even worse, the beginning or continuation of a secular bear. In the present situation, if we are in a mini-bull within a secular bear market, we might expect the overall advance, with its own corrections, to last a total of a couple of years or more beginning from the March 2009 lows. If the rally from the March 10 lows were merely an upwards secondary correction within a major secular bear downleg, we can expect severe bear market action to resume any time in the next few months.
     To give some examples, the 1987 crash decline possessed the severity and depth of a mini-bear, but in time span was more similar to a severe secondary reaction (i.e. correction). The 1990 decline in both duration and extent better fits the description of a mini-bear. The mini-bear occurs within a secular bull market but lasts longer and falls further than a typical bull market reaction (correction). These attributes can make the mini-bear difficult to distinguish from the beginnings of a secular bear market, especially since they will invariably render mechanical primary bear sell signals under the Dow Theory. The 1994 decline gave a Dow Theory primary bear signal, even though it was not even a mini-bear but was more clearly a case of a typical sharp downward secondary reaction within a bull market. The 1970-1973 rally was a classic mini-bull because it occurred within a secular bear market as was the aforementioned late1974 to 1976 rally. This mini-bull had a peculiar twist in that the DJ Averages declined during 1977 while the A-D index advanced, carrying up the small and mid-cap stocks. A general rally ensued in 1978 punctuated by a severe correction in October of that year. It could be reasonably asserted that the mini-bull began in Dec. 1974 and lasted through Sept. 1978. I think that that the 1932 to 1937 and 1942 to 1946 primary bull markets probably should be considered mini-bulls because they occurred within a secular bear market unfolding from 1929 to1949.
      On the issue of sentiment, I think that it is essential to distinguish between the beliefs of market analysts and money managers, many of whom issue frequent comments about their opinions in various media and the non-professional public. Of course newsletter writers and prominent economists are also members of the highly visible professional category. With the advanced tools of today's market technicians and the staffs of money management institutions researching the fundamentals of companies, industry groups, and the economy as a whole, it is only natural that contemporary professionals are going to identify new trends and other characteristics of the economy and the markets more rapidly than the "layman investor or observer". These factors make the task of assessing economic and market sentiment much more complex. Thus, knowing what is really a valid "contrary opinion" is more difficult to evaluate. And determining what the correct "contrary opinion" actually means at any given time is by far the main motive for the emphasis on realistically determining sentiment. Over time, the majority of investors apparently can not be right so there is a real premium on trying to take positions that are contrary to the "herd" or "crowd". The majority is usually the most wrong at turning points (tops or bottoms). However in the middle stages of the price movement of any class of asset, the majority in all categories of investors must surely be right. Otherwise it would be virtually impossible for  major price trends to exist because there would not be enough demand to drive up prices.
     To the early Dow Theorists Charles Dow, William Hamilton, and Robert Rhea, market sentiment to a large extent meant the thoughts and feelings of the general public, not the market professional, if for no other reason than simply because the professionals just were not so numerous and omnipresent as they are in the "modern" era. It is not reasonable to expect the majority of market letter writers to understand as little about what the market is doing as individuals from the ordinary public and therefore to take a contrary opinion to them is not equivalent to taking a contrary opinion to members of the non-investment professional citizenry.  Many of these adviser/analysts are quite insightful in their use of sophisticated technical tools to analyze the price variations of numerous indices. Most of them do not closely study the Dow Theory per se but do understand some of the Dow Theory principles, such as the valuation cycles and the importance of major indexes confirming each other (though not necessarily the DJ Industrials and DJ Transports as in the Dow Theory).
     But even today market analysts like John Swenlin of Decision Point, who is bullish on his own definition of the long term trend of the S&P 500, believes we are in a "secular" bear market that began in March 2000. Under this interpretation the 2002-2007 bull market, although certainly a "primary bull market", could not be considered a "secular bull market" because it did not begin from classical very low valuations. Therefore it fits the description of a long-duration "mini-bull" and the 2007-2009 decline a major downleg of the "secular bear". This type of action is, of course, reminiscent of the 1966-82 and 1929-1949 secular bear markets with their intervening "mini-bulls". Using the Elliot Wave Theory to analyze a putative secular bear market beginning in March 2000, we might expect a 3rd major downwave from the top of a 2nd major upwave (the current one) of a major overall secular bear market consisting of 5 subwaves (3 down and 2 up). The question we are now puzzling over is where this 4th wave (2nd upwave) will end. Is the current sideways to mildly upward price action defining a topping area of the 4th wave (2nd upwave) or is it just an inflection point on the way to the real peak? When the 5th wave (3rd downwave) gets going, it will likely be brutal, but from what levels will it begin? If this mini-bull were similar to the May 1970 to Jan 1973 mini-bull, we might expect this one to last into the fall of 2011. However, as I noted above, some of the mini-bulls have lasted 4 to 5 years.
    The preceding paragraphs do indeed imply that I subscribe to the theory that we are in mini-bull market within a secular bear cycle. I also offer one more alternative to the list of possibilities for the nearer term resolution of stock price trends. That is that we are making an intermediate term top within the min-bull after which the 4th wave (2nd upwave) will resume. It really seems to me that an intermediate correction in this mini-bull market is overdue.
    Crestmont Research has done extensive research on the concept of "secular bull and bear markets" and may be the creator of the concept. Crestmont Research  also uses the terms "cyclical bull" and "cyclical bear" markets rather than "mini-bull" and "mini-bear" markets. I would also venture to say that the distinction between a mini-bear and a downward correction within a secular bull market is a less important one than the distinction between a mini-bull and an upward correction within a secular bear. My reason for saying this is that downward price movements of all types move faster than upward ones,  and thus a mini-bear will arrive at its destination too rapidly for an awareness of the distinction to provide much practical benefit.

                                          The Unraveller