All Ords Report 13/10/2015

It is often said that when the market falls by around 20% we are in a bear market. So are we there yet?

Last month I wrote an article about how many brokers had turned very bearish and were calling a bear market. This was just over a week ago and now brokers are saying we are in a bull market. So who do you believe?

Firstly, you may be wondering what constitutes a bear market? According to the financial industry in general, the market has to fall by around 20% before they tell you we are in a ‘bear market’. Now how does that help you? In reality it doesn’t, particularly if you don’t have the right knowledge. Why?

Contrary to what you might expect, history shows how often just after the financial industry call a bear market it starts to rise again. Given this, on hearing a bear market call, those in the know are watching for signs of a turn. However, investors without the right knowledge generally fear a further fall, long after the market has commenced the next rise, and therefore miss the best opportunities.

In my opinion, the market has been bearish for some time and my analysis has indicated that the turn in the market was likely in September or October. As the XAO has moved sideways since the August low, followed by a rise, this is an early indication that the low may be in.

For those who want to learn more about the market, there are some interesting things you will discover by taking a closer look at the declines that have occurred in the past. I encourage you to try this yourself. If you are keen to learn more about how the market moves this little exercise can be a good eye opener.

Simply refer to a weekly bar chart of the All Ordinaries Index (XAO) on your broker’s website, which represents over 95% of all shares on the Australian share market. And, using a calculator, determine how far the market has fallen from a significant high into the next low. This will demonstrate what is typical when the sellers take control.

If you have studied the Trading Mentor course, or the Diploma of Share Trading and Investment, you will have additional knowledge to draw on, such as support and resistance and techniques like Dow Theory which provides an early indication of a change in trend/direction.

To learn share market basics, and build your knowledge on how to profit from the share market click here.

Remember, to meet your goals in the share market, you may require a higher level of knowledge, particularly if you are serious about building your wealth, or generating an income from the market.

Back to the analysis. Let’s consider some of the major falls on our market. Over the past 30 years, there have been only two occasions when the Australian market fell by around 50%; the XAO fell by 50% in 1987; and 55% from the 2007 high to the low in 2009. This indicates that a fall of this degree is not common.

So let’s look at what is more likely to occur when the sellers really take control.

In 1995 the market fell by around 23% before it turned and rose strongly. The next significant fall of this degree was in 1998 by approximately 21%, followed by a recovery to a new high and another fall (17.5%) into the low in 1999. There have been more falls of similar degree since; the XAO fell by 22.5% into the low in 2003 (consider the gains that followed); 24.5% into the low in 2011; and the recent decline of 17%. The big message here is, learn from history rather than opinion to determine what the market is most likely to do, and get the right knowledge so that you have the confidence to time your investment decisions.

You may also like to listen to a podcast titled Terrible October about how the market tends to unfold in the month of October.

What do we expect in the market?

This week the sun shines again on the Australian share market. At the time of writing the All Ordinaries Index (XAO) was holding above 5200 points, which is an important hurdle that I mentioned in previous reports. A strong weekly close above this would increase the probability of a further rise over coming months, and this was confirmed last week (as shown on the chart below).

That said, it is possible for the market to pull back below this level again over the coming weeks. Remember one of three things could occur; the market may continue to rise; hover just above 5000 points; or it could continue to fall below the August low of 4936 points. For this reason, solid entry rules to time your entry are important. However, provided the market holds above 5000 points over the coming month it is more likely to rise into the latter part of 2015. A move above 5350 points would be a very strong sign.

One thing I have observed over the years is that when negative news is constantly flowing, eventually something positive will emerge. While I don’t like to make predictions about what the news will be that will drive a reversal in the market’s direction, my knowledge of technical analysis tells me at what value(s), or what level(s), a turn is most likely to occur. Currently, as mentioned, the market appears to have turned at one of those levels, being around 5000 points.

Looking to international markets, the probability that the US Federal Reserve (FED) will lift rates this year has fallen below what it was a couple of months ago, and it’s now likely that the FED will delay the start of the rate rise program until next year. If this continues to be the message to global markets we may see volatility settle for a while and markets may rise into early 2016.

That said US companies are currently reporting to the market, and this is often accompanied by greater volatility. Given concerns around global growth and as there is still fear in the minds of investors and many industry players in Australia, our market will continue to be sensitive to international news.

Looking to Asian markets, my current view is similar to that of the XAO, in that lows are either already in or these markets are very close to a turn. I’m not suggesting that you need to watch Asian markets to make an assessment of the Australian market, however, a solid rise on Asian markets is likely to be followed by a further strong rise for Australian shares.

Dale Gillham is Chief Analyst at Wealth Within