The Dangers Of 'Bogus Bear-Market Bottoms' For Stock Market Bulls

Investors should exercise caution when considering the end of bear markets, as many apparent exits have proven to be deceptive. Sam Stovall, CFRA's chief investment strategist, highlighted the media frenzy surrounding the Nasdaq-100's declaration of a new bull market on March 29. 

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Despite closing over 20% above its bear-market low set on Dec. 28, the index had previously experienced a significant pullback of 35.6% from its peak. Stovall observed that both the Nasdaq-100 and S&P 500 have a history of falsely indicating bear market bottoms and prematurely signaling the start of new bull markets.

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The definition of a bull or bear market depends on a 20% rise or fall from a recent low, according to criteria used by Dow Jones Market Data and many other market observers. 

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Therefore, the market is always in either a bull or bear market and does not switch categories each time it crosses the threshold. A reversal of at least 10% or 20% in the opposite direction is required to change its status.

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Stovall highlighted that out of the eight bear markets experienced by the Nasdaq-100, half had false bottoms where the 20% advances off the declines greater than 20% were eventually surpassed as the index plunged to lower lows. 

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He cautioned that the current bear market has already encountered one false bottom, and only time will reveal the legitimacy of the current bull market.

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Similar warnings were raised when the Nasdaq Composite closed 20% above its recent bear-market low. The S&P 500, the prominent U.S. large-cap benchmark, is yet to emerge from the bear market it entered in early 2022 after a decline from a record close. 

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On the other hand, the Dow Jones Industrial Average exited its bear market in November.

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While the S&P 500 has also experienced false bear-market exits, they have been less frequent. Stovall noted that out of the 14 bear markets since World War II, only the 2000-02 and 2007-09 periods had bogus bottoms. 

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During the 2000-02 episode, investors witnessed two false-outs, while only one occurred during the 2007-09 period.

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The existence of such false bottoms explains why the 20% rule is not universally embraced. Some analysts argue that a new bull market begins only after surpassing the previous high, while others employ more intricate criteria.

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