Bear markets are not fun. Investors hate seeing the value of their portfolios decline. The good news is that significant market downturns only last a short time. When will the bear market bottom out? Let's see.
When Will The Market Bottom Out? 3 Things to Pay Attention To
1. S&P 500 Shiller CAPE
In fact, one indicator has never failed to correctly forecast bear markets. The S&P 500 Shiller CAPE ratio is present. Cyclically adjusted price-to-earnings, or CAPE.
It was popularized by Yale University professor Robert Schiller. The average share price of the S&P 500 is divided by the 10-year average inflation-adjusted earnings per share to get at the S&P 500 Shiller CAPE ratio.
A bear market has always followed each time the CAPE ratio for the S&P 500 has remained above 30. These notably include the bear markets that began in 1929 (which preceded the Great Depression), 2001 (with the dot-com bubble bursting), and this year.
Though the indicator has never been wrong, it hasn't foreseen every bear market, it should be noted. As an illustration, the S&P 500 Shiller CAPE ratio was significantly lower than 30 prior to the bear market connected to the Great Recession from 2007 to 2009.
Can the Shiller CAPE also predict the bottom of a bad market? Sometimes. Late in 2002, when the CAPE dropped below 22, the S&P 500 quickly recovered. The short bear coronavirus-fueled bear market of 2020 followed a similar pattern. However, before The market bottomed out in 2009, the CAPE ratio dropped to about 13.
2. VIX
The values of S&P 500 call and put options are used to calculate the VIX, or Chicago Board Options Exchange Volatility Index, which measures expected stock volatility. The VIX is sometimes referred to as the "fear gauge" since volatility tends to spike when investors are Afraid and fall when investors are optimistic.
When the VIX rises above 30, it can be a predictor that stock prices will soon fall. For example, the volatility index topped this threshold in mid-2008 -- and the S&P 500 crashed soon afterward. The VIX jumped above 30 in early February 2020. A few weeks later, the stock market plunged.
This index may occasionally indicate the bottom of a bear market. Some investors see a VIX reading below 20 as a sign that market participants are not afraid. However, this doesn't always indicate that stock prices are about to rise again. For instance, When the S&P 500 bottomed out in early 2009, the VIX was still around 40, and it peaked at 50 when the market hit its lowest point in 2020.
3. Sector rotation
Investors that move their capital from one sector to another are said to be engaged in sector rotation. This pattern is frequently a reasonably accurate predictor of the impending arrival of a bear market. As an illustration, before the current bear market started, growth stocks started to decline while value companies continued to perform well.
When you see money returning to growth stocks and away from more stable stocks, it could mean that the bear market has bottomed. Granted, this can be a lagging indicator to some extent. It's possible that the sector rotation won't become obvious until after a stock market recovery has started.
Conclusion: When Will The Market Bottom Out? 3 Things to Pay Attention To
In conclusion, indicators that the bear market has bottomed out include the S&P 500 Shiller CAPE ratio, VIX, and sector rotation. Nevertheless, as we've shown, these methods aren't infallible by any means.
Consider this alternative (which, in my opinion, is a better one). Instead of trying to predict when the stock market will bottom out, just keep making frequent, high-quality stock purchases at reasonable prices during the bear market. Bear markets are unpleasant, but the long-term gains they can help you achieve can be beneficial.
