Tuesday, 25 June 2013

Anatomy of a bear market

I’m so glad that I sold out. It was a tough decision even though I had a clear signal. Since I sold my shares they have fallen in value by 3.4%, 0.8% less than the DJI. The fact that they have fallen less suggests that they were quality shares. There were 4 winners and 14 losers. This is an endorsement of my strategy: when the going gets tough head for the hills.

The question now is will I be able to get back into the market at a lower price and start to make money again. This is why I like a powerful decline and not one that meanders with little rallies. It’s those rallies that get under your skin. They are a notorious feature of bear markets.

Let’s look at the anatomy of the 2008-9 down-turn you will see what I mean.

  1. Starting the 28 December 2007 we had a strong 12% drop to 22nd January.
  2. Then there were six weeks  of vacillation
  3. Until a gentle rally kicked in and recovered about ¾ of the loss in just over two months, in fact the top value in that rally coincided with the 71.8% Fibonacci retracement. Spooky
  4. Then another two months and a bit of decline pulled the market down to 80% of its high i.e 20% of its original value had gone.
  5. Then another couple of months of indecision
  6. The next two weeks took another 20% off the markets original value
  7. This sharp fall brought out bottom fishers in force, they had an uncomfortable 7 days as the market went up but gyrated violently before all their profits vanished
  8. The bottom fishers had another go for six days and then the market bit them back and came down to 45% of its start value
  9. Then there were two and a half months when bulls and bears pushed and pulled, with the bears coming ot on top
  10. And finally the last hurrah as the last 10% was taken off the market; and the bear market was over down 52% 15 months after it began.

I recount all this, not because I believe we are in for another bear market of the same magnitude, but to remind myself that when the market decides to pull back it is very difficult to navigate the twists and turns. Without the benefit of hindsight it is, oh so easy to be misled.

I've run a test using my S&R timing for that bear period. (Go back a few posts and you will see how this research works) Using my more risky share picking search the portfolio yielded 93% pa in that falling market. There were, however substantial risks associated with that rate of return . On more than one occasion the whole portfolio was invested in just one share, which happened to do extremely well. There was also a maximum drawdown of 24%. A big strain on the nerves.

The more conservative of my share picking searches did much worse losing 28% over the period. Still better than the 52% that the market gave up.

I know that some people think that because the economy is poised for recovery there is little chance of a new bear market. My thinking is different. The stellar growth we have seen, means that a lot of good economic news is priced in already. 

And then the market has to deal with two more negatives. The flow of easy money (QE) is about to come to an end. And interest rates are bound to rise and then investors will have an alternative home for their money.

Pessimistic? We shall see. 

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