U.S. stocks recovered much of their losses from the first half of the year, but the three major indexes tumbled this week on renewed fears of a rate hike by the Federal Reserve and there are signs that most of the bear market rally is now over. behind us, Citigroup analysts said.
According to strategists at Citi Research, the current bear market rally is almost in line with the duration of the average bear market bounce, and sentiment has already improved as much as it usually does during regular bear market rallies, suggesting a possible end to the rally relatively soon.
“Bear market rallies are often driven by sentiment as the market simply gets too bearish,” Citi Research strategists led by Dirk Wheeler, managing director and head of emerging markets strategy, wrote in a note on Thursday. “More fundamentally, many bear market rallies are driven by hopes that the Fed is coming to the rescue. The current one is no different, as the Fed’s master narrative was an important catalyst.”
In particular, the graph below shows that AAII bull-bear indicator, one of the closely watched surveys of investor sentimentalmost returned to the levels at which bear market rallies peak on expectations that share prices will rise over the next six months, rising 1.2 percentage points to 33.3% in the week of August 15, while bearish sentiment increased by 0.5 percentage points to 37.2%.
SOURCE: CITI RESEARCH, BLOOMBERG
Meanwhile, the SKEW index for the S&P 500, which measures the difference between the price of derivatives that protect against market declines and the right to take advantage of rallies, has normalized almost as much as the average bear market upswing (see chart below), said Citi Research. The index can be a proxy for investor sentiment and volatility.
SOURCE: CITI RESEARCH, BLOOMBERG
Federal Reserve officials agreed in July it was necessary to move their benchmark interest rate high enough to slow the economy to combat high inflation, while raising concerns that they may tighten monetary policy more than necessary, according to the minutes of the Federal Open Market Committee’s July 26-27 meeting released on Wednesday .
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After the minutes of the meeting were released, the president of the Federal Reserve Bank of St. Louis James Bullard said he was leaning toward another big rate hike of 75 basis points at the central bank meeting in September. Meanwhile, Richmond Federal Reserve President Tom Barkin said the Fed “will do whatever it takes” to bring inflation back to its 2 percent target, according to Bloomberg reportwhile Reuters reported that Barkin says the Fed’s efforts need not be “catastrophic.”
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According to Citi Research, a bear market rally refers to a bounce equal to or greater than 10% that occurs between a peak and a trough. “If a new bottom is made after a 10% rally, the next rally of more than 10% is a separate bear market rally (or bull market if no new bottoms are subsequently made),” the strategists wrote.
S&P 500
SPX,
rose 15.4% from its 52-week low of 3,666.77 on June 16, while the Dow Jones Industrial Average
DJIA,
rose 12.9%, and the NASDAQ Composite
comp,
jumped 19.4% from their mid-June lows, according to Dow Jones market data. In total, Citigroup noted that the three indices experienced gains of 17% in the past 42 trading days since June 16.
US stocks ended the week sharply lower. The Dow Jones Industrial Average
DJIA,
fell 292.30 points, or 0.9%, to end at 33,706.74. . S&P 500
SPX,
fell 55.26 points, or 1.3%, to end at 4,228.48. The Nasdaq Composite
comp,
down 260.13 points, or 2.0%, to 12,705.22.