There is an obvious analogy between what happened in the equities market in late 2011 and what happened in late 2008, and I’m certainly not the only one who has made that observation.
Just like in 2008, equities bounced in October after yet another mark down, only to be pressured lower again as the deterioration in the global macro-environment simply grew too big, too obvious and too dominant to ignore.
It’s difficult to anticipate anything other than that we will see more pain before we can start zooming in on gains again. But maybe looking towards the gains is the smart thing to do right now.
The last nasty market dip ended after two dreadful opening months in 2009, when a short-covering rally started in the US on 6 March and ensured markets had seen the bottom. A rally followed.
I think we will see a similar scenario unfold in 2012. I don’t know as yet when, where and why exactly it will happen, but somewhere in front of us lies the over-saturation point in negative news flow and from investors fleeing the stock market for the safety of cash, property and government bonds.
The indicators
How will we know whether that point of reversal is approaching?
There are two indicators that have in the past proved their value as reference points:
- The OECD Leading Indicator, which at present is negative and falling;
- Global forecasts for corporate profits and, whatdayaknow, global earnings estimates are still falling too.
When this is the case, it’s usually the worst time to be in the share market as historical returns are the worst out of all available scenarios. The good news is, however, the next phase in the cycle for both these market indicators tends to be the most profitable one for equity owners.
This is why I thought a flash-back to three years ago is apt as the experience of 2008-2009 proved just that: first more pain, and during the process the foundations were being laid for the following gain.
Don’t just take my word for it; analysts at both UBS and Macquarie have been doing some backward looking data analysis earlier in the year and in both cases their analysis confirmed that what happened three years ago will likely happen this time around as well.
Admittedly, things look a bit different because of the seemingly permanent macro-overhang of Europe and its problems, and it may well be that the trigger for the next rally this time will come from the European banks, but it remains my view that any rally will prove unsustainable until the two indicators above have turned for the better.
Which brings us to the obvious question: when is that going to happen?
The turning point
Analysts at Macquarie believe the turning point could be sooner than many of us are inclined to expect because the news continues to be so negative, as is the accompanying price action.
Macquarie thinks the turning point will come in the first three months of 2012 when the trough for both the OECD Leading Indicator and the downtrend in global earnings forecasts will likely manifest themselves. They expect the market to start to rally shortly after, between late in the first quarter and August.
I’m a little less optimistic than Macquarie and suspect the turning point will take a little longer, potentially in the second quarter of the year, but the difference is in timing, not in underlying principle
In practical terms, 2012 should see both the depth and the turnaround in this downtrend. I think that’s something to look forward to.
In the meantime, be like an experienced hunter, be patient.
Best wishes to you all. May 2012 bring wisdom, fortune and happiness, and still leave enough to aspire to in subsequent years.
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