As Roseanne Rosannadanna used to say, "It's always something. If it's not one thing, it's another." The Dow took a header and went down to its biggest loss in two years on April 18. The culprit this time? It was IBM
Top 10 signs the bear is out of hibernation
- You stop checking your brokerage account every 90 minutes.
- Copies of the Wall Street Journal begin forming a yellowing monolith under your desk.
- You microwave your copy of Dow 36,000: The New Strategy for Profiting From the Coming Rise in the Stock Market.
- You begin to think Jim Cramer's 30-seconds-per-stock lightning round could be cut in half.
- You have trouble recalling ticker symbols for Coca-Cola, General Motors, Citigroup, Ford, and Gillette.
- You start checking your brokerage account every 15 minutes.
- Your best stock tips come from your Ouija board.
- Broker jokes begin to replace lawyer jokes: "How many brokers does it take to shingle a roof? Depends on how thin you slice them."
- Stock becomes more useful as an ingredient in bouillabaisse than as an investment strategy.
- Something with large claws and sharp teeth tips over the trash cans in your backyard.
OK, so maybe those aren't too helpful. There are much better ways to measure the mood of the market.
Technical analysis and indicators
Whether or not you believe in technical indicators for making individual investment decisions, the technical analysis of trends in the market can prove helpful in gauging its mood. Even if you don't believe that the shape of a chart can reveal the future movement of a stock, watching some of the trends of the overall market can be instructive.
Advance/decline ratios give investors some idea of where the market has been headed over a particular period of time. The ratio is simply the number of advancing stocks divided by the decliners. A value of 1 means they are equal. A number less than 1 (under the line) is an indication that more stocks are retreating than advancing. As this chart shows, the market has been in decline most of the first quarter of 2005. You can see that a great deal of the action has been "under" the line and the overall trend is down. Does the ratio allow investors to predict the timing of big declines? Perhaps not, but it is a good indication of the general mood of the market.
While watching CNBC about a month ago and I heard speculation that since the Dow Jones Transportation Index peaked at the same time as the Dow Jones Industrial Index, it was time for a correction. At the time, it sounded like voodoo, but it is in fact CNBC's interpretation of the Dow Theory. The theory goes something like this:
A bull market is confirmed when the Transportation and Industrial averages reach new highs with declines that don't break previous lows. Bears are heralded by new lows in both that do not reach the previous highs.
And there are also economic indicators
Economic indicators are surveys of economic trends and include rates of inflation, consumer sentiment, and gross domestic product, to name a few. The market pays close attention to these, so when the news is bad, the market reacts.
Consumers are the backbone of the national economy and make up approximately two-thirds of activity. If consumers are nervous, it may indicate slowing growth. There are several consumer sentiment surveys. Two of the most popular are the Consumer Confidence Index, put out by the Conference Board, and the University of Michigan's Michigan Sentiment Index. When consumer confidence is high or rising rapidly, inflation may become significant. If it is low, the Federal Reserve may use it as one piece of evidence to support lowering the interest rates to stimulate consumer spending. Consumer confidence is considered an important predictor of the business cycle.
The Consumer Confidence Index, which declined in February, lost more ground in March. It now stands at 102.4, down from 104.4 in February. The University of Michigan said its measure of confidence declined to 88.7 in April, down from March's 92.6. Analysts forecasted 91.5, and the slide was worse than expected. Gas prices are the overriding concern for consumers.
The Consumer Price Index (CPI) measures inflation and is useful for evaluating how the Federal Reserve policy is affecting the economy. The CPI is a cross section of consumer goods and services that tracks costs on a monthly basis. This influential economic indicator has the power to move the market. A rising CPI is inflationary -- and the market hates inflation. When inflation rises, the Fed responds by raising short-term interest rates, and the market hates this, too.
The core rate does not include energy and food prices, which tend to be more volatile. The CPI can be expected to rise at an annual rate of 1% to 2%. Anything above that is inflationary.
The CPI came in higher than most economists forecasted, rising 0.4% in February after a 0.1% increase in January, and it hit 0.6% in March. The core CPI rose 0.3% in February and 0.4% in March, which puts us on pace to exceed the comfortable 1% to 2% per annum -- core prices have risen at a 2.7% annual rate since October.
The Fed recently raised rates another quarter percent -- the seventh straight increase since it started its tightening campaign last June. It warned that inflationary pressures have increased, and the market worried that the "measured pace" in rate increases might accelerate. The next Fed meeting is May 3. The feeling is that if March core rates came in around 0.3 or more, there is a chance the quarter-point rate hikes may give way to a half point. What will the market do -- go up or down? My money is on down -- the market hates rate increases.
Gross Domestic Product (GDP) is perhaps the most telling economic indicator of the country's growth rate. It measures consumer spending, government purchases, investments, and the trade balance. It is measured yearly with releases of quarterly stats. The U.S. average historical growth rate has been between 2.5% and 3%. Recently, however, rates have been slightly better, helping to boost the market. When it slows, expect the market to respond. Initial estimates for second-quarter GDP were pegged at 4%. They are now being lowered to 2% or 3%. Combine that with the decreasing consumer index surveys and you begin to get a picture of slower growth. Wall Street hates slow growth.
Retail sales are a key component of the economy. As the name suggests, it tracks merchandise sold by the retail sector, from American Eagle Outfitters
Put all those factors together and IBM looks more like a good excuse for the Dow's ugly turn.
Bear markets are not all bad
If you like to shop for bargains and have the soul of a value investor, bad markets provide interesting opportunities. On the worst day in two years, what were investors flocking toward? Drug stocks were some of the most actively traded; a few even closed in on 52-week highs. Bristol-Myers Squibb
Bear markets can often offer good companies at great prices. That's exactly what Philip Durell, analyst for Motley Fool Inside Value, hunts for: solid businesses that are currently undervalued by the market. Do you have the stuff of a value investor? If you want to find out, Philip is offering free 30-day trial subscriptions. Or, for a limited time, you can purchase a subscription at a 25% discount to the regular price.
J. Graham owns shares of Bristol-Myers Squibb and Pfizer. The Motley Fool has a disclosure policy.
