Defending the Bull. Again.

I defended the bull market four months ago, and I’ll try to do it again today. This time, however, I want to take a look at some of the bearish arguments making the rounds. David Gaffen at Marketbeat outlines a few.
For example:

The VIX, commonly known as the “fear index,” is hovering around 10, a low point, suggesting a lot of carefree folks out there these days. This level is often a turning point, a calm before the storm, so to speak.

No! No! A thousand times No! A low VIX does not mean that investors are complacent. It means the exact opposite—investors are being cautious. Notice how all the other risk spreads are also low.

The current rally is now the third longest since 1900 without a 10% correction.

That’s true, but what’s so special about 10%? The S&P 500 had a 7.7% correction last spring, and it kept going. This bull hasn’t exactly been a roaring bull. In almost ten months, we’re up almost 10%. That’s less than both earnings growth and dividend growth. Look at some sentiment indicators. Value stocks are still leading growth. The Nasdaq is still less than one-fifth of the Dow. These aren’t the signs of an overheating market.

Margin debt has hit an all-time high, surpassing the heady days of the technology stock boom, as more people borrow money to buy stocks than ever before.

But what about equity growth? The proper way to look at margin debt is its relation to equity. Why isn’t margin growth a good thing, reflecting investor optimism? (Update: Bill Rempel makes several good points on this misleading stat.)

The Dow industrials, transports and utilities all closed at new highs on the same day last week — something that became a routine occurrence in just two years, 1929 and 1986, both preludes to big market falloffs.

The last two triple highs came in March 1998, and the Nasdaq promptly tripled. The time before that came in April 1993, and the market rallied for another nine months. Nearly anything can prelude a big market falloff.
Another bearish talking point is that the market hasn’t had a 2% down day in nearly four years. Once again, I don’t see what’s so bad about that. The market is in a period of low volatility. There’s nothing unusual or dangerous about it. Today’s volatility is roughly equal to other periods of low volatility. Was their anything dangerous about the market of the mid-1990s? There were just three 2% down days from November 1991 to July 1996, and we survived. Some of us even made money. Remember this was the market that led to Irrational Exuberance.
Also, what’s so special about 2%? Since the last 2% day, we’ve had over 60 1% falls, including a few 1.8%-ers and one 1.9%-er. Change the parameters slightly, and the talking point goes away. We’ve gone almost nine months since a 1% correction, and that’s far from the longest streak ever.

Posted by Eddy Elfenbein on February 22nd, 2007 at 1:39 pm

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