S&P believes that the damage to investors' confidence from this bear market will foil any attempt by stocks to bounce off recent lows
From Standard & Poor's Equity ResearchBesides family and friends, investors had at least one more thing to be thankful for in the days surrounding the Thanksgiving holiday— the stock market's performance in the last week of November. (Alas, much of that holiday cheer vanished on Dec. 1 as the stock market tumbled). In that holiday-interrupted stretch, all major U.S. equity indexes jumped by 10% or more, bookended by the Nasdaq's rise of nearly 11% and the S&P MidCap 400's jump of more than 16.5%.
In addition, all 10 sectors in the S&P Composite 1500 index (the combined S&P 500, S&P MidCap 400, and S&P SmallCap 600 indexes) rose on the week, from a 4.9% advance for the Consumer Staples and Utilities sectors to a 29.6% surge for the Financials. And if that weren't enough, all but one of the 143 subindustries in the S&P 1500 rose in the final week of November, led by more than 40% jumps for Homebuilders, Diversified Financials, and Auto Manufacturers.
Yet this Thanksgiving thrust wasn't enough to turn the tide of red ink for most sectors in S&P's large, mid-, and small-cap indexes. Year to date through Nov. 28, while the S&P 500 declined 39.0% and the S&P MidCap 400 and SmallCap 600 fell 40.0% and 35.8%, respectively, all 36 categories (10 sectors plus the growth and value splits within the three cap-size benchmarks) remained down on the year from as little as 15.9% for the S&P SmallCap 600 Consumer Staples sector to 57.0% for the small-cap Telecommunications Services sector. What's more, five of the sectors across the cap-size spectrum lost more than 50%. For the month of November alone, the results were a bit more encouraging as six of the 30 sector categories posted advances.
A Trillion Here, a Trillion There
In my opinion, sector price changes alone don't adequately convey the magnitude of the financial carnage that was suffered by investors during the past 13 months. On Oct. 9, 2007, the peak of the 2002-07 bull market, the S&P 500's market value stood at $13.786 trillion. On Nov. 20, 2008, the recent low, its market value had declined by 52.3%, to $6.575 trillion, recording a loss of more than $7.2 trillion. So when the U.S. government commits only about one-seventh of the liquidity that evaporated in the past 13 months, I can understand why the bank bailout probably won't spark a near-term surge in liquidity-influenced inflation.
Within the S&P 500, the market-value meltdown was staggering. All sectors in the S&P 500 saw a sharp drop in market value, from a low of 27.7% for Consumer Staples to a high of 72.2% for Financials. To me, the extent of dollar declines was mind-numbing: $2 trillion for Financials, $1.2 trillion for Information Technology, and $864 billion for Industrials. Only the Utilities sector got away relatively unscathed with "only" a $170 billion reduction in market value.
Carnage Changes Cap Classifications
Obviously, reductions in sector market values are the result of declines in market values for component companies. And for some, the word "reduction" is a gross understatement. On Oct. 9, 2007, the average market value for companies in the S&P 500 was $27.611 billion with ExxonMobil (XOM) the largest, at nearly $514 billion. What's more, only five companies had market values of less than $2 billion, which, to some, would have categorized them as small-cap stocks.
The accompanying table tells what has happened since then. On Nov. 20, 2008, while ExxonMobil remained the largest company in the S&P 500, its market value had fallen to $356 billion—a loss of more than $150 billion. In addition, the average market value for the S&P 500 had shriveled to $13.150 billion. Specifically, previously venerable behemoths saw their rankings within the S&P 500 tumble to humiliatingly low positions. Hartford Financial Services (HIG) experienced the greatest rank change of 326 positions to No. 429 from No. 103. Higher-profile slippages included AIG's (AIG) decline from No. 11 to No. 300 and General Motors' (GM) tumble from No. 150 to No. 427.
Finally, the increase in companies in the S&P 500 that now carry small-cap-like valuations amplified the overall decline in value during the past 13 months. On Nov. 20, 2008, 33 component companies had market values below $1 billion and 93 companies had market values below $2 billion. In other words, as a result of this bear market that shaved more than 50% from the value of the S&P 500 index, nearly one-fifth of the companies in the S&P 500 would have been classified by some as small-cap issues. Coincident to the market's dramatic decline, and to communicate/clarify specific market-cap thresholds, S&P's Index Services department issued a press release on Sept. 25 lowering the market-value parameters for the S&P indexes to $4 billion or greater for the S&P 500, $1.0 billion to $4.5 billion for the S&P MidCap 400, and $250 million to $1.5 billion for the S&P SmallCap 600.
Coal or Cash in Our Stockings?
Historically, the S&P 500 has posted its best returns in December, no matter whether you look back to 1929, 1945, 1970, or 1990. Since 1945, the "500" has gained an average 1.76% in December, vs. an average advance of 0.54% for all other months. In addition, the frequency of a rise in prices was greatest in December at 76% vs. an average 57% for the remaining 11 months. But just as this recent bear market has been rewriting the history books on many time-tested truisms, another "downer in December" may be in the cards for two reasons: earnings and capital gains.
As of Nov. 24, 2008, S&P equity analysts were projecting a 20% improvement in S&P 500 foutrh-quarter 2008 earnings per share (EPS) over the results of the year-earlier quarter. Wall Street consensus estimates called for a similar magnitude of advance. The way the earnings picture has been developing throughout the year, however, should we get another decline in year-over-year results, rather than the double-digit increase previously anticipated, sharp downward revisions to the 2008 fourth quarter and full-year 2009 EPS forecasts will likely drag end-of-year prices with them.
Therefore, despite the near 16% bounce off of the Nov. 20 bottom through Nov. 28, a near-term retest of the market's lows may be triggered by renewed worries surrounding overly optimistic EPS projections.
Also contributing to this possible retest of recent lows could be the selling of mutual fund holdings by individual investors to capture capital losses to offset the expected capital gains incurred by funds that had to sell profitable positions to fulfill shareholder redemption requests.
Therefore, while a bear-market bottom may have been established in late November, we believe that the damage to investors' confidence during this devastating bear market will probably restrain a bounce off of the bottom and require many months of seesaw base-building before an advance can be staged. In truth, we still look to a low of 700 on the S&P 500 is a possible long-term bottom.
Industry Momentum List Update
Here is this week's list of the sub-industries in the S&P 1500 with Relative Strength Rankings of "5" (price changes in the past 12 months that were in the top 10% of the S&P 1500), along with a stock that has the highest S&P STARS (tie goes to the issue with the largest market value).
S&P STARS Rank
Environmental & Facilities Services
Health Care Services
Home Improvement Retail
Procter & Gamble
HyperMarkets & Super Centers
Integrated Oil & Gas
Packaged Foods & Meats
Trading Companies & Distributors
Source: Standard & Poor's Equity Research