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The Bull No One Believes Keeps Charging
04/15/2010 3:23 pm EST
By Howard R. Gold
On Wednesday, the Standard & Poor’s 500 index topped 1200 while the Dow Jones Industrial Average surpassed 11,000, their highest levels in a year and a half—all amid a lack of investor interest so thick you can cut it with a knife.
The proximate cause for the recent run-up: blow-out earnings reports from the likes of Intel (Nasdaq: INTC), JPMorgan Chase (NYSE: JPM), and UPS (NYSE: UPS), reflecting a broad recovery in corporate America’s business.
Stocks recovered from early losses Thursday as good earnings vied with news that jobless claims had jumped 484,000 last week, their second consecutive weekly gains.
Still, based on market history, this looks like a real bull. Yes, it may very well face a deeper correction some time soon and yes, because of its huge gains so far, future appreciation should be more modest. But it could be quite some time before the bear starts growling again.
“You’re getting a sloppy, ugly market and economy, but [they] clearly have an upward bias,” Stephen Wood, chief market strategist of Russell Investments told me. “A year from now, the market will be higher.”
Why? Because the same groups that have propelled the market higher since last March—financial, technology, and consumer cyclical stocks—are still the leaders. And smaller value stocks, from mid-cap on down, continue to set the pace.
“There hasn’t been a big, substantive change in leadership. Small-cap, value, lower-quality names [are still outperforming],” says Wood.
They get a “disproportionate benefit from a cyclical upturn,” he explains.
Look at the table below, based on Russell’s data. I selected several domestic and international Russell indexes, reflecting different market capitalizations, investing styles, and regions. Then I ran two data series—from March 9, 2009 (the beginning of the bull market) to April 14th and from February 8th of this year (the end of the recent correction) through Wednesday’s close.
If there had been a change in leadership coming out of the correction—especially a move to more defensive stocks—we could say the rally was probably coming to an end.
Instead, I found that the groups that had done the best all along were the ones that still set the pace.
The Russell groups that cover mid-, small-, and micro-cap value US stocks all about doubled since last March’s bull market lows, outperforming their smaller growth counterparts by ten to 15 percentage points. Large-cap stocks of all kinds brought up the rear, although their 60%-plus appreciation was nothing to sneeze at. Still, the larger and “growthier” a stock was, the worse was its relative performance.
As you can see, that pattern persisted since the February 2010 correction: Small and microcap value stocks set the pace, while large growth lagged.|pagebreak|
In the international arena, emerging markets, especially Asia Pacific and Latin America, continued to lead the pack out of the February correction, as they have since last March. A stronger dollar may be tamping down the performance of overseas stocks and helping the relative strength of the US market, however.
This isn’t surprising to Sam Stovall, Standard & Poor’s chief investment strategist.
“‘Second verse, same as the first,’” he quips, quoting a popular Beatles-era song.
“In the first year of a bull market, stocks beat bonds, small caps beat large caps, and cyclical sectors beat defensive sectors, and a rising tide lifts all boats,” he says.
The second year shows a similar pattern, but the gains are more muted. Since World War II, second years of bull markets—measured from the date the bull started, not the calendar year—averaged 10% gains.
By year three, large stocks tend to beat small stocks. But that’s a year away, based on market history.
In fact, Stovall thinks this bull has a way to go: Since World War II, the median duration of bull markets has been 50 months, just over four years. (The last bull market, from March 2003 to October 2007, lasted 55 months—or five full years, if you think that bull began in October 2002.)
But “no bull market since 1949 died before its second birthday,” he adds. Which means this bull has at least until next March to run. The S&P Investment Policy Committee recently set a 12-month target of 1270 on the S&P 500.
The bullishness of pundits like Stovall, Jim Stack, and chart-watcher Dan Sullivan, who all started waving the flag for this bull early on, is in marked contrast to the investing public’s continued caution.
Although a new survey shows that 62% of investors are bullish about the next six months, few are loading up on stocks. They appear to be immune to Wall Street’s arguments that the train is leaving the station.
Investors have put only $1.8 billion into US stocks from January through March, according to the Investment Company Institute, while they added $24.1 billion to foreign stock funds and $100 billion to bond funds, continuing the flight from risk they pursued with a vengeance in 2009.
The most recent poll by the American Association of Individual Investors showed bullish sentiment for the next six months at 48.5%, nicely above its long-term average of 38.9%, but well below previous peaks. Bearishness was just about at its long-term average of 30%.
This all suggests that investors are getting more bullish—after a yearlong rally of 70% or more—but still are holding back, so there remains a wall of worry for stocks to climb.
After such a huge move, there could be a nice correction at hand—maybe the “official” 10% we just missed in January and early February. Stovall also points out that the second and third quarters of the midterm election year are the two worst quarters of the so-called presidential cycle, though he adds that “sell in May and go away” generally doesn’t work in the second year of a bull market.
Cautious investors could switch some assets into more defensive sectors like health care and consumer staples to ride out a correction, he says, but he wouldn’t pull money out of the market entirely.
Because if history is any guide, it’s too early to jump off the bull that nobody believes in.
Howard R. Gold is executive editor of MoneyShow.com. The views expressed here are his own.
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