Pictures of a Stock Market Mania
The Bull Market Ended Long Ago, Yet the Mania is Intact
DATA THROUGH OCTOBER 13, 2000
cross-currents.net
Recent events should have cast an entirely new light on the U.S. stock market. Despite the way overdue correction in stock prices, it is apparent to this observer that the bull market ended long ago but the mania is still intact. How can that be? Until there is a broadening recognition that the bull market has concluded, faith and belief will keep investors optimistic about the outcome of any price correction. They have all been taught by the last five years that declines equate to opportunity. I do not expect that recent events have yet changed the psychology of participants.
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Given the damage visible in the last few weeks, it is amazing to see that Dollar Trading Volume has not eased one iota. The biggest difference of course, is that most of the dollars now spent buying stocks are buying them at a lower price, but lower prices are offset by the higher volume of shares traded. There is still no end to the mania for some of the day trader favorites like Brocade Communications, Juniper Networks, Ballard Power and perhaps a dozen others. Once you get past that point, it is all downhill and brutally obvious that the bull market concluded long ago. We have noted here before how the bull market mania grew, reaching a critical mass sometime in 1997 and simply accelerating from there. Ironically, the mania very nearly came to an end in the fall of 1998 as the Long Term Capital Management fiasco unwound. A little known fact is that LTCM's derivatives impacted $2 trillion in the derivative daisy chain, the principal reason a deal was brokered by the Federal Reserve Board, to save the world from a financial collapse. And for good measure, a rate cut was thrown in as a total surprise. At that point in time, the brokered deal and the rate cut acted as a virtual guarantee to participants that the Fed would always be there in time of need. A free put option, if you will. Note how DTV vs. GDP and DTV vs. Market Capitalization took off into 1999 and 2000!
Years from now when we all look back at this period, the most incredible statistic of all will undoubtedly be that one stock - JD Uniphase - traded in one day as much as was spent on all the goods and services purchased in the entire country. If there ever was a defining moment for the mania, that was the moment. It is also quite sobering to see that DTV vs. total Market Capitalization is again beyond where it ended the fateful year of 1929. Throughout the mania, this was the one indicator that did not compare with 1929. By April of this year, it surpassed 1929 and it does so again. By any sane judgment, this has been the great stock market mania of all time.
Were there any clues that the recent selloff was in the cards? The market speaks with many voices. To mention three; the indexes, the media and the financial industry.
The indexes themselves for many months have said that all was well, do not be concerned. The media, of course, can only exist in a positive environment. Participants are never eager to hear bad news and will eventually ignore the media rather than despair. The financial industry is duty bound to increase business first and foremost, thus the repetition of advertisements illustrating the huge gains earned during years of a stock market mania also spoke of optimism on every time frame. But other voices spoke as well, loudly stating that a new phase was in control. At left below, it became clear to this observer that the stock market was undergoing a distinct change in character for many months. Our 10-day measurement of daily new highs minus new lows had typically been in positive territory a robust 91% of the time. However, by the late spring of 1998, a distinct change in character occurred and daily new highs became relatively scarce while daily new lows became a common event. The change in the stock market's character was all too obvious, but was totally ignored by the indexes, the media, the financial industry itself and most importantly was ignored by market participants. At right below, we illustrate just how irrelevant the indexes became in the mania; falsely indicating good times when all around them the individual issues that comprise the broad market were diverging in the opposite direction. Despite the continued rise in the indexes into much of 2000, the market totally changed character and a majority of trading sessions witnessed the indexes closing lower! Was this statistic noticed? No. Instead, it was totally ignored.
Before and after the dividing lines. Two totally different markets!
Note also how the trend for the S&P 500 was clearly broken in recent weeks. Our new trendlines point to at least a test of SPX 1310. However, our target is still 1250-1260.
Just how erroneous were the many judgments and proclamations that all was well? In a word, very. In fact, the good times had ended long ago and the mania was perpetuated by the belief that fewer and fewer rising stocks equated to a bull market. Among the 442 U.S. companies with a market value greater than $5 billion, 56 have fallen by at least half from their 52-week highs, and 165 have dropped 30 percent or more. In retrospect, it is unbelievable that participants could be willing to invest even more of their savings and worse, margin their holdings to an extent exceeded only by the mass hysteria that culminated in 1929. Even as the indicators weakened, more money flowed into fewer stocks. The cumulative daily advance-decline line (not shown) was actually in crash mode for most of the last two years! However, the daily line admits to a permanent mathematical bias and although we believe it illustrates a fair picture of what was transpiring, most observers do not. Hence we are showing the weekly line, unencumbered by any bias and clearly indicating that the stock market peaked as far back as October of 1997! Nevertheless, the indexes continued their run at new highs and were able to establish new records on the backs of less constituents. The divergence was/is as great as any in stock market history and is clearly corroborated by these charts. Cumulative new highs topped out in May of 1998, 20 months before the peak in the major averages! That both of these indicators have just made new cycle lows is proof positive a bear market has been in progress for a long, long time.
Just how much worse can the damage get? In my humble opinion, nothing much has yet transpired on the downside thus far for the S&P 500 or the Dow Industrials. It is entirely logical to conclude that the mania is to be followed by a secular bear market (one that endures for at least several years). As we have shown, that bear market is already underway. However, the faith and manic reliance of participants has created an aura of invulnerability; they continue to buy stocks even as the playing field narrows to a few handfuls of extremely speculative stocks. Incredibly, although the internet sector has totally imploded, the focus has shifted to whatever can provide the sizzle. In recent weeks, day trader favorites like those mentioned in the second paragraph of this report have supported the mania despite their outrageous valuations. Much of the mania was built on the thesis that the internet would change our lives; the so-called "new era." If they could implode, there should be no safe haven for speculative issues, regardless what the "sizzle" might be. Like the internet stocks we show here, we would expect similar damage to all of these speculative high flyers at some point.
STOCK HIGH LOW PCT. CHANGE
Yahoo! $250.06 $65.63 -73.8%
Amazon.com $113.00 $27.38 -75.8%
E*Trade $72.25 $12.69 -82.4%
Doubleclick $135.25 $19 -86.0%
Earthlink $66.50 $7.25 -89.1%
Priceline.com $165.00 $4.63 -97.2%
Meanwhile, there are two very interesting perspectives we can draw from our S&P 500 chart. First, the best part of the bull market clearly ended several years ago. The chart comprises data through September and does not reflect the October swoon, which would likely place our 2000 bar a little lower. Although the recent two years do not resemble a bull market, they do not really resemble a traditional bear market either. We should expect to see this bar this year or next at least down to where it was in 1990, the last generally acknowledged year of a bear market. In other words, we have quite a ways to go! At right below, the 21-day ARMS (a/k/a TRIN) Index clearly indicated a bear market to come as it did in 1987 and in 1990 (see circled areas). Each of the prior bear markets and indeed, most of the significant price corrections since 1987 have led to spikes in the indicator, a sign of capitulation and surrender by market participants. This is typically how periods of significant price correction end (near the horizontal green line), when investors and speculators alike throw in the towel and concede they must sell at any price. Thus far, there is no evidence at all of capitulation. The action remains quite tame and particpants remain complacent about the eventual outcome. We cannot remember a single significant bottom being put into place with TRIN levels this low. Perhaps this will be a rare occurrence that deviates from the norm, but the view of utter complacency makes a lot more sense.
We usually end our reports with a guess at how far prices might fall in the long run, which we estimate to be sometime in the next three to five years. Our last chart is based on data provided by BiancoResearch LLC and vividly illustrates just how important stocks have become vis-a-vis the money that purchases them. The mania provided all-time record low after all-time record low. At the price peak, the entire M2 money supply fell to less than 29% of total stock market capitalization. Given that we do not expect a return to anywhere near the record highs for this indicator, it is probably safe to say that the logical expectation would be a return to the norm, shown by the broad horizontal line we have drawn across the chart. That said, we would not be at all surprised to see M2 return to just the position it occupied at the last real bear market in 1990. That would take prices as measured by the Dow Industrials down fully 76.8% from the highs, equating to perhaps as low as 2719 for the Dow Industrials. Can it happen? Yes. Manias, without exception, end very poorly. That said, we prefer to believe the damage will be contained to lows somewhere above Dow Industrials 4000, back to the levels at which the mania actually began in early 1995.
We believe our year 2000 downside targets will most likely be achieved this month.
Our targets have changed slightly to:
9400 for the Dow Industrials, 1250 for the SPX and 2800+ for the Nasdaq Composite.
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Alan M. Newman, October 14, 2000
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