Popular daily charts now updated: Bear Bottoming Process and Four Bad Bears.

The Unreal Price Differential
December 3, 2008

We all know about inflation, but how many of us factor inflation into our long-term investment expectations? Here's chart of the S&P Composite going back to 1871 with no inflation adjustment.

Now here's the same chart corrected for inflation. Economists would say the first shows "nominal" prices, the second "real" prices. If you study the two in alternation, you notice some striking differences.

But when you combine the two into a single chart, you instantly see what I call the Unreal Price Differential. From the 1870s to World War II, the occasional episodes of deflation kept stock price growth relatively modest. After WWII, inflation has given nominal prices the illusion of superior long-term performance. However, when adjusted for inflation, post WWII prices are shown to be far less outstanding.

I'll have more to say about on topic in the near future.

With so much happening yesterday, I missed posting the intraday volatility update. I've been tracking the Dow percentage spread between daily highs and lows exceeding our 8% red-flag threshold.

Over the 80-year period since 1928, the average volatility in the Dow is about 1.8%. There have been only 67 days when the intraday volatility exceeded 8%. That's right — 66 out of over 20,300 market days. If they were evenly spread, that would be about one 8% plus volatility day every 14.4 months.

Here's the amazing and rather disturbing part . . .

Seventeen of them have occurred since September 29th. The Crash of 1929 had only eight. Another thirty followed during the ten-year Great Depression. Four were clustered around the Crash of 1987. Only two happened during the nasty 2000-2002 bear.

The current bear market has had a record-breaking nine consecutive days of 8% plus volatility (October 6 through the 16th). Second place goes to the Crash of 1929, with eight super-volatile days spread over a 14 market-day period (10/23/29 to 11/13/29).

Here's a snapshot of the data, and here is a set of charts showing Dow volatility since 1928.

So, where does this volatility lead us? These 67 manic-depressive days were almost evenly split (33:34) between up and down days. The range is astonishing — from a 15.3% gain in March 1933 to a 22.6% decline on Black Monday, the Crash of 1987. But if you combine the stats, the results are unremarkable. The sum of the 67 gains and losses is -3.1%. The average is 0.05%.

If you're into high risk trading, these high-volatility days are the ultimate challenge. For long-term investors, try deep breathing exercises, or (my favorite) pick up a copy of the Tao Te Ching.

Well, it finally official — what many of us have known for months. Not only are we in a recession, but we've been in one since December of 2007. The National Bureau of Economic Research (NBER), a private research organization responsible for making the call, finally did so today. You can read the NBER report online.

To see the complex interplay of recessions and bear markets since 1950, click on this chart.

The Mega-Bear Quartet
November 30, 2008

Some commentators have speculated that the current bear market could match the ferocity of the Dow following the Crash of 1929, the post-1989 Nikkei 225, or the NASDAQ after the Tech Bubble. As this comparison shows, it's far too soon to know. But the S&P 500 is off to a frightening start.

To see the mega-bear comparison more clearly, here's musical analogy that allows you to view the similarities incrementally. Use the blue links to add the parts.

Over the past few decades, equity markets in the U.S. have had an extended bull run. Despite the mini-crash in 1987 and the 2000-2002 tech meltdown, many investors have grown complacent about market risk. These charts remind us that bear markets can last a long time. And it's not necessary to go back to the Great Depression for an example.

Four Bad Bears: Log Scale Version
November 30, 2008

I've received much feedback on the Four Bad Bears chart. Thanks to all! Earlier today, Simon Funk sent an email asking to see those bears plotted on a log scale, "since that's more representative of what's going on. In the same way that a linear scale visually over-states growth in a rising market, a linear scale under-states loss in a falling market. Few will appreciate the magnitude of what happened after 1930 when viewed on a linear scale. It also makes it harder to eyeball and compare trends."

Excellent observation, Simon! Unfortunately, Excel doesn't support negative log scales. So thought about it and came up with a workaround log scale variant. I had to cheat a bit with Excel to produce this chart, and my method doesn't allow me to display the vertical scale. If anyone knows a better work-around, send me an email.

S&P 500 Moving Averages: Month-End Update
November 29, 2008

At November's close, the S&P 500 10-month moving average (10-MA) and exponential moving average (10-EMA) both continue to signal a cash position. In essence, when the monthly close of the index is above the moving average value, you hold equities. When the index closes below, you move to cash.

The SP&P 500 closed the month at 896.24, which is 27.1% below the 10-MA (1,229.92) and 24.5% below the 10-EMA (1,187.40). Since 1950 only once before (September 1974) has the index gapped more than 25% below the 10-MA.

Buying and selling based on a moving average of monthly closes can be an effective strategy for managing the risk of severe loss from major bear markets. The disadvantage is that it never gets you out at the precise top or back in at the very bottom. Also, it can produce the occasional whipsaw (short-term buy or sell signal).

Nevertheless, a chart of the S&P 500 monthly closes since 1995 shows that a 10-month moving average strategy would have insured participation in most of the upside price movement while dramatically reducing losses.

For an introduction to moving averages using daily MAs, see the primer on the StockChart.com website.

For a more detailed examination of the longer term monthly MA timing strategy and its performance against buy and hold, Mebane Faber's World Beta website periodically features his thoughtful "A Quantitative Approach to Tactical Asset Allocation" (PDF format). This article is highly recommended for anyone contemplating a market-timing alternative (or supplement) to a long-term buy and hold strategy. See also his recent chart illustrating the relative performance of this monthly timing strategy versus buy and hold. More...

Unemployment and the S&P Composite Since 1948
November 28, 2008

I've now added recessions to our chart of unemployment and the S&P Composite since 1948. In the absence of an official ruling from the National Bureau of Economic Research, the current recession is not shown. The start date of 1948 was determined by the earliest monthly unemployment figures available from my source, the Federal Reserve Bank of St. Louis.

Unemployment is a lagging indicator that moves inversely with equity prices (see chart). Note the increasing peaks in unemployment in 1971, 1975 and 1982. The inverse pattern becomes clearer when viewed against real (inflation-adjusted) S&P index prices.

We'll take a closer look at this topic in future commentary.

The Bear Bottoming Process
December 28, 2008

Let's take a step back from the current market volatility and consider what a recovery might look like. Here's a set of charts showing the eight completed bear markets since 1950 and how the S&P 500 index performed during the 12 months following the bottom. For the sake of completeness, we've included the near-bear decline that accompanied the Gulf War of 1990 — just shy of the 20% decline of an "official" bear.

As the charts show, bear markets typically spent six weeks to eight months working though the bottoming process. Rather than a sharp V-shaped decline and recovery, these bears bounced around the lower range before transforming into the next bull market.

In recent weeks the current bear market has fallen sharply to its present level. As our review of recoveries suggest, patience will be required while today's bear thrashes around his bottom.

The Dow now hovers just above the 8,000 level. With a long-term view in mind, an obvious question is whether the decline to date has taken us below the mean value of the index. If we plot a linear regression through the Dow since 1950, it appears that we've fallen sharply below the mean.

But time frame is everything.

If we chart the Dow since 1928, the current level appears to be a regression just slightly below the mean.

However, if we chart the Dow since 1900, the picture is less optimistic. Regression to the mean would require an additional decline to the vicinity of 5,500 to 6,000.

Note: Our Dow overview now includes a chart of 1924-1940 with a focus on the Crash of 1929. The current market decline has been more rapid than the typical bear, but it's nothing like the rate of decline that lead to the Great Depression.

How Bad is the Economy?
November 20, 2008

The unemployment numbers and high-profile liquidations (Linens-N-Things, Circuit City, etc.) are sure signs of a recessionary downturn. But the one that grabbed my attention today is a business located near the McDonalds where I occasionally buy a "senior" coffee.

"Oskar Huber thanks you for 81 years" reads the sign over the entrance. You don't need a calculator to do the math: 2008 minus 81 equals 1927.

This business was an infant during the Crash of 1929 and was pre-schooled by the Great Depression. But 2008 marks its demise. Eighty-one years — that's close to a healthy human life span.

Best wishes to all the Oskar Huber employees for speedy new employment.

Inflation at 3.66% — The greatest monthly decline in seventy years! 11.63% using the ShadowStats.com pre-1982 calculation method The October 2008 inflation rate was 3.66% — a sharp decline from September's 4.94%. In fact, the October Consumer Price Index for Urban Consumers (CPI-U) marked the largest monthly decline since January 1938, during the Great Depression. The Bureau of Labor Statistics began tracking the CPI in 1913. Since that time, only 33 months have registered a month-on-month decline of 1% or more. Thirteen occurred during the decade of the 1930s, 15 during the 1920s, and 4 between 1913 and 1919. The declines during the '20s and '30s coincided with periods of deflation, as this chart illustrates. Here's a link to a stunning 15-minute explanation of how Uncle Sam has been systematically manipulating two key numbers that determine the health of our economy: the Consumer Price Index (CPI), which measures inflation, and our Gross Domestic Product (GDP), which measures the total market value of all goods and services produced within the country. Historical Inflation Data The Big Picture: NEW! The monthly chart now includes a consistent look at inflation without the calculation modifications the '80s and '90s. Overview: Inflation, recessions and the S&P 500 Table: Monthly & annual inflation data since 1946 The November 2008 CPI is scheduled for release on December 16, 2008.

The Millionaire Delusion
By Doug Short
January 16, 2008

Will a million be enough to fund your retirement?

"Who wants to be a millionaire?" Regis Philbin asked when the popular TV show of the same name debuted in the United States in 1999. The program had originated the year before in the U.K. and eventually created a worldwide craze, with spinoffs in more than 70 countries, including places as diverse as Iceland, Kazakhstan, Nigeria, Thailand, and Uruguay. More...

Of course, I mean financial porn!

Looking for hot trades? Do you get your tips from CNBC's Fast Money crew? Is Mad Money's wild man Jim Cramer your trading guru? And speaking of trades, did you know that earlier this year, CNBC's Maria Bartiromo, aka the "Money Honey," actually filed to trademark her nickname?

The airwaves are awash with real-time coverage of the markets. I could spend my entire waking life toggling between CNBC, Bloomberg, and now Fox Business News. If I'm watching Squawk on the Street but need to run to the store, no problem! I can catch the broadcast on XM Radio. Off to the gym? Every treadmill at my fitness center has a personal LCD TV attached. I can pace myself to streaming live quotes from the New York Stock Exchange. More...

Do you know the four-letter secret to retirement success?

Pop quiz! Test your number skills with these two questions:

1. If the chance of getting a disease is 10 percent, how many people out of 1,000 would be expected to get the disease?
   
   
2. If 5 people all have the winning number in the lottery and the prize is 2 million dollars, how much will each of them get?

These questions were asked during a Health and Retirement Study (HRS) to measure the financial literacy of Baby Boomers. While 84% nailed the disease question, only 56% could divide the lottery correctly. People who got at least one of the answers right were asked a bonus question: More...

Does your brain recognize the retired you?

"Me first!"
"I've got shotgun!"
"Looking out for number one!"

These catch-phrases reveal two basic aspects of human nature: Our chronic self-absorption and our focus on the immediate. We spend most of our lives living for today with ourselves at the center.

But now science is beginning to reveal how this innate behavior threatens our retirement. Based on functional magnetic resonance imaging (fMRI), researchers know that certain parts of our brain are more active when we're thinking about ourselves. However, a recent Forbes magazine article mentions some preliminary research at the Stanford Center on Longevity with stunning implications for retirement planning. "When people are asked to imagine themselves in retirement, the parts of their brains that usually 'light up' when they think about themselves don't light up at all. It's as if they were thinking about a stranger." More...

Movie monsters pale in comparison.

I've just come from the stunning 3-D cinema version of Beowulf. In my former life as a Beowulf scholar, I would never have imagined our hero facing a monster with the seductive allure of Angelina Jolie — naked! However, I was even more surprised by the monster-sized refreshments at the concession stand, especially because I'm not a frequent visitor to the modern megaplex. I saw lone moviegoers struggling with family-sized tubs of butter-drenched popcorn. More...

Doug Short, Ph.D., AAMS, CRPC, AWMA