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Alphabet Soup: Anatomy of a Market Rebound
Stock Market News
July 2001
Alphabet Soup: Anatomy of a Market Rebound
Maybe you have heard market pundits casually throw around the term â âVâ bottom.â It means simply that when graphing the price changes of the stock market, the rebound is equal to the decline, that is, the right side of the âVâ will be a mirror image of the left side. Of course, we know all too well what the left side of the letter looks like. The market declined at a very steep angle from March 2000 through April 2001.
For several months now, beginning even before we fully formed the left side of the letter âV,â experts have devoted substantial time to predicting what the right side of the letter will look like. So what, exactly, are the possibilities? Well, the best possible outcome from our bowl of alphabet soup is naturally âV.â Such a rebound in the market would be the fastest way to recover lost portfolio values. It means recovery at a very steep angle. From April 4, 2001 through the middle of March, it appeared as though a âVâ bottom was at hand. All of the major market averages soared and many dared to quietly speak of a bull market.
The second half of March was weak and both May and June have been mediocre. The illusive twenty-second letter of the alphabet has slipped through our fingers.
The eternally pessimistic market bears have been predicting âLâ shape. If you own stocks, this is the worst possible of the 26 letters. As its shape implies, it means we go down and stay down. It implies that we skid across the bottom endlessly with nothing to drive stocks prices higher. To the delight of investors everywhere, we have no indication that this letter will find validation in the markets. As noted, the markets did see substantial strength during April/May and at no time in history has the market hit bottom and perpetually stayed there. The markets have always found reason to claw their way back to new highs. It happens that we currently have more reasons for that conviction than in other bear markets. The Federal Reserve has been extremely aggressive in cutting interest rates, including the latest _ point easing on June 27, 2001; the Congress will rebate more than a trillion dollars to taxpayers over the next decade; and we have purged excessive speculation in the markets, including a dramatic reduction in the use of margin borrowing.
So if we are not to have the extremes, neither a âVâ nor an âL,â what then? Many market observers now believe the shape of the market rebound will look suspiciously like the letter âU.â That is, we will see a protracted bottoming phase followed by a meaningful up-tick later in the year. This is to say, more of a slow, smooth turnaround rather than a snap back like a yo-yo. The notion that we will form a bottom across several months does seem to square better with the data. Right now the U.S. economy seems to be in for a âUâ shape turnaround of its own in terms of the changing course of GDP growth (deceleration, stabilization, acceleration). Curiously, the market may actually be rationally forecasting the future of corporate profitability. In late 1999 the stock market and the economy had de-linked, and now, as we see a re-linking, the friction is causing a loud grinding noise and lots of sparks.
Due to where we find the U.S. economy along the market cycle continuum, in recession, and based on the fact the market is only now beginning to fully digest the bad news, we must brace ourselves for the possibility of another letter. The letter âWâ is now looking even more likely than âU.â We may be facing another round of selling as we reluctantly enter corporate earnings season. Evidence is mounting that many companies will not meet quarterly earnings estimates that had already been slashed from optimistic forecasts earlier this year. This will be a major disappointment for many investors who believe the all of the negative stuff is behind us.
Before you are tempted to go screaming for the exits, remember the entire shape of the letter âW.â Yes, we started a rebound in stocks in early April that was shaping up to be a âVâ when it grew up, but it failed. We have sold off since mid-May and, again, are likely to see continued pressure through the next month, as corporations must bare their souls to the world. This is the bad news, and the painful middle portion of the twenty-third letter of the alphabet. But there is hope.
The last third of the letter âWâ is actually the right side of the letter âV.â You see, even though the economy will not recover as quickly as some had hoped, and even though stock prices have careened lower yet again, we will, if we exercise discipline and patience, be rewarded with the wonderful letter âVâ after all.
Keep in mind that monetary policy and fiscal policy take time to do good or to do harm. The Federal Reserve Bank started raising interest rates in the middle of 1999 and continued through the middle of 2000. The economy started to weaken much later in the last quarter of 2000 and only recently became anemic. Likewise, the Fed just started to lower rates in January. So it will take time to turn around the economy. It will take time for a lower income tax burden to translate into more consumption. The mess we find ourselves in today took a while to make, and it will require some time to recover.
Jobless claims recently fell for the third straight week, an indication that all of the folks being laid off are finding new jobs rather quickly. Conversely, worker output, or productivity, fell in the latest quarter to its worst level in years, an indication that we are not out of the woods just yet. We are mired in a recurring theme of mixed results from the economy. Until we can string together some economic indicators all moving in the same direction, the stock market will continue to churn and grind.
The safest investment recommendation is to get to the grocery store as quickly as you can and buy a can of alphabet soup. Remove all of the letters except âUâ,âVâ, and âW.â Eat heartily. All of these letters have one thing in common. Each has a happy ending. And so too will the stock market.
For several months now, beginning even before we fully formed the left side of the letter âV,â experts have devoted substantial time to predicting what the right side of the letter will look like. So what, exactly, are the possibilities? Well, the best possible outcome from our bowl of alphabet soup is naturally âV.â Such a rebound in the market would be the fastest way to recover lost portfolio values. It means recovery at a very steep angle. From April 4, 2001 through the middle of March, it appeared as though a âVâ bottom was at hand. All of the major market averages soared and many dared to quietly speak of a bull market.
The second half of March was weak and both May and June have been mediocre. The illusive twenty-second letter of the alphabet has slipped through our fingers.
The eternally pessimistic market bears have been predicting âLâ shape. If you own stocks, this is the worst possible of the 26 letters. As its shape implies, it means we go down and stay down. It implies that we skid across the bottom endlessly with nothing to drive stocks prices higher. To the delight of investors everywhere, we have no indication that this letter will find validation in the markets. As noted, the markets did see substantial strength during April/May and at no time in history has the market hit bottom and perpetually stayed there. The markets have always found reason to claw their way back to new highs. It happens that we currently have more reasons for that conviction than in other bear markets. The Federal Reserve has been extremely aggressive in cutting interest rates, including the latest _ point easing on June 27, 2001; the Congress will rebate more than a trillion dollars to taxpayers over the next decade; and we have purged excessive speculation in the markets, including a dramatic reduction in the use of margin borrowing.
So if we are not to have the extremes, neither a âVâ nor an âL,â what then? Many market observers now believe the shape of the market rebound will look suspiciously like the letter âU.â That is, we will see a protracted bottoming phase followed by a meaningful up-tick later in the year. This is to say, more of a slow, smooth turnaround rather than a snap back like a yo-yo. The notion that we will form a bottom across several months does seem to square better with the data. Right now the U.S. economy seems to be in for a âUâ shape turnaround of its own in terms of the changing course of GDP growth (deceleration, stabilization, acceleration). Curiously, the market may actually be rationally forecasting the future of corporate profitability. In late 1999 the stock market and the economy had de-linked, and now, as we see a re-linking, the friction is causing a loud grinding noise and lots of sparks.
Due to where we find the U.S. economy along the market cycle continuum, in recession, and based on the fact the market is only now beginning to fully digest the bad news, we must brace ourselves for the possibility of another letter. The letter âWâ is now looking even more likely than âU.â We may be facing another round of selling as we reluctantly enter corporate earnings season. Evidence is mounting that many companies will not meet quarterly earnings estimates that had already been slashed from optimistic forecasts earlier this year. This will be a major disappointment for many investors who believe the all of the negative stuff is behind us.
Before you are tempted to go screaming for the exits, remember the entire shape of the letter âW.â Yes, we started a rebound in stocks in early April that was shaping up to be a âVâ when it grew up, but it failed. We have sold off since mid-May and, again, are likely to see continued pressure through the next month, as corporations must bare their souls to the world. This is the bad news, and the painful middle portion of the twenty-third letter of the alphabet. But there is hope.
The last third of the letter âWâ is actually the right side of the letter âV.â You see, even though the economy will not recover as quickly as some had hoped, and even though stock prices have careened lower yet again, we will, if we exercise discipline and patience, be rewarded with the wonderful letter âVâ after all.
Keep in mind that monetary policy and fiscal policy take time to do good or to do harm. The Federal Reserve Bank started raising interest rates in the middle of 1999 and continued through the middle of 2000. The economy started to weaken much later in the last quarter of 2000 and only recently became anemic. Likewise, the Fed just started to lower rates in January. So it will take time to turn around the economy. It will take time for a lower income tax burden to translate into more consumption. The mess we find ourselves in today took a while to make, and it will require some time to recover.
Jobless claims recently fell for the third straight week, an indication that all of the folks being laid off are finding new jobs rather quickly. Conversely, worker output, or productivity, fell in the latest quarter to its worst level in years, an indication that we are not out of the woods just yet. We are mired in a recurring theme of mixed results from the economy. Until we can string together some economic indicators all moving in the same direction, the stock market will continue to churn and grind.
The safest investment recommendation is to get to the grocery store as quickly as you can and buy a can of alphabet soup. Remove all of the letters except âUâ,âVâ, and âW.â Eat heartily. All of these letters have one thing in common. Each has a happy ending. And so too will the stock market.
These articles are intended to provide general resources for the tax and accounting needs of small businesses and individuals. Service2Client LLC is the author, but is not engaged in rendering specific legal, accounting, financial or professional advice. Service2Client LLC makes no representation that the recommendations of Service2Client LLC will achieve any result. The NSAD has not reviewed any of the Service2Client LLC content. Readers are encouraged to contact their CPA regarding the topics in these articles.
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