Tuesday, March 03, 2009

US equity in secular bear market

When Dow Jones Industrial Average ('DJIA') broke below the 2002 'low' of 7197 on February 23rd, there was a quick rebound on the next trading day (February 24th). The second time the DJIA breached the 2002 'low' on February 27th (last Friday), there was no rebound on the next trading day, i.e. March 2nd (which was yesterday). This is a very significant breakdown, which may serve to confirm the extreme danger that the US and global economy is presently facing. This technical breakdown may confirm that the US equity may have enter into a secular bear market. See Chart 1 below.


Chart : DJIA's 10-year chart up to March 2, 2009 (source: Yahoo Finance)

From Chart 2 below, we can see the super long-term uptrend of the DJIA (see the black line) which reflects the tremendous economic progress achieved by the American people & nation after the Great Depression in 1930s. From the tumultuous period, DJIA begun its recovery & entered a secular bull market that lasted from 1933 to 1965. Thereafter, the DJIA entered into a secular bear market that lasted from 1965 to 1982. This was followed by another secular bull market starting in 1982, which lasted until recently. I have drawn the secular bull markets' uptrend lines as blue lines, while the secular bear market has been depicted in pink. While the secular bull market of 1933-65 can be easily tracked by the blue uptrend line, the secular bull market of 1982-2008 does not fit snugly onto the blue uptrend line. Based on the blue uptrend line drawn, we can see that the most recent secular bull market may have ended in early 2008 when the DJIA broke below the 12700 level.

If we use a simpler definition of an uptrend, i.e. where we have a higher 'high' and a higher 'low', then you may conclude that the secular bull market of 1933-65 ended when DJIA's 1970 'low' was lower than the 1966 'low'. Similarly, the secular bull market of 1982-2008 may have ended when DJIA's 2009 'low' was lower than the 2002 'low'.


Chart 2: DJIA's multi-year chart up to Jan 2, 2009 (source: Yahoo Finance)

Whether the secular bull market ended in 2008 or 2009 may not be a very material point. The ensuing secular bear market can last a long time. The previous one lasted from 1965 to 1982- a good 17 years (see Chart 3 below). If the same were to re-occur, the US equity market will be a secular bear market up to 2025-26. While there are rallies in between, one will have to live with a less rewarding, more unforgiving environment for equity investment.


Chart 3: DJIA's chart for 1960-1985 (source: Yahoo Finance)

The period 1965-82 is also known as the Great Inflation era. Monetary & fiscal policies were expansionary, partly to finance the Vietman war as well as Lyndon Johnson's Great Society programs. This lead to a sharp rise in inflation, which was very good for gold. Would the same happen again? Or, would the US economy enter into a deflationary environment with debt-laden households refusing to spend; over-capacity business enterprises refusing to expand; and, zombie banks refusing to lend. This would be similar to the Japanese experience in the past 18 years.

If the first scenario happened, i.e. inflation rate shoot up, a good investment would be gold. I have appended below the chart of the relative performance of DJIA vis-a-vis gold for 208 years (Chart 4) and the chart of gold (and WTIC) price movement for the past 109 years (Chart 5).


Chart 4: DJIA/Gold ratio from 1800 to 2008 (Source: Sharelynx.com)


Chart 5: Gold & WTIC Price movement from 1900 to 2009 (Source: Globalfinance.net)

Based on the extremely bearish outlook for US equity market and other equity markets worldwide, we must be very cautious in our equity investment decision. Good luck.

No comments: