Date: May 21 2012
THE thing that kills most people in bear markets is time.
They just take so long to play out, causing the deflated participants to give up and walk away. Hope-filled rallies are dashed by another gut-wrenching fall. As Al Pacino said in Godfather Part 3, ''just when I thought I was out, they pull me back in''.
This scenario played out again recently as the gradual gains notched up in the first quarter evaporated in a matter of weeks.
We are now just shy of five years in a bear market in which the benchmark All Ordinaries Index has declined by 40 per cent. So what does the roadmap from this month on look like?
Predictions are fraught with danger because they are invariably wrong, but worth a shot regardless. It is my belief that we are entering the final stages of the third major secular bear market to hit the Australian stockmarket in 45 years.
Despite the pall of gloom emanating from the big engines in the northern hemisphere, there are road signs popping up that give us hope that things are not far away from getting better. If proven correct, these would dovetail nicely with historical events.
For the record, I believe the next six to eight months will be a turbulent period. The collapse in global markets since the beginning of the month is the first sharp leg down in a market that will not hit bottom until late this year or early next.
This year's decline will be punctuated by rallies that are short and uninspiring. The first of these is not too far away given sentiment is floundering. Since the global financial crisis in 2008, the best time to buy the Australian market has been when the All Ordinaries Index has fallen below 4000 and it should be the case again.
Turning points in stockmarkets are characterised by V-shaped bottoms with a nasty selloff at the death. We have not reached this point yet. At the end of a bear market we should also see company valuations crunched, and while the Australian market is historically cheap, it is not at historical lows.
Once this final selloff takes place there is a real chance the Australian market can begin a major, multi-year recovery, with the old high of 6873 recorded on November 1, 2007, taken out in 2015 or 2016.
With all the negative news around the globe and at home, how can the sharemarket possibly start to recover in such a short time? There are a number of positive shoots appearing.
At the top of the list is a reduction in official interest rates. The Reserve Bank has been reluctant to reduce rates, but eventually pulled the trigger early this month and I hope it will continue to do so for the remainder of the year. At least another 50 basis points reduction would be a major stimulant for economic activity next year and in 2014.
The second indication that we might be limping towards the end of the bear market is the real prospect that the mining boom is closing out.
Hard commodity prices are traditionally late-cycle plays and tend to be the last shoe to drop. The All Materials Index on the ASX peaked in April 2011, after rising 253 per cent from 2003 when the boom took hold.
Since April last year, the Materials Index has fallen about 35 per cent. Like all bear markets, the rate of decline is accelerating as it matures. I would expect this trend to continue for some months, with more companies going broke and only the best funded and lowest-cost producers surviving.
Ironically, lower commodities and, moreover, lower energy costs is a boon for Western countries. As Credit Suisse strategist Atul Lele puts it, significantly lower oil and gas prices might just be the ''productivity shock'' that kick-starts global growth.
Third, investors are racing towards high yielding and defensive stocks such as Telstra, Tatts, Coca-Cola Amatil and Woolworths. These companies are becoming expensive, with people forgetting they are equities and have capital risk. But Telstra is still a low-growth company with a treacherous service record. Investors will look elsewhere for superior growth as the economy finds it feet throughout 2013 and 2014.
Finally, the current Australian secular bear market is 4½ years old. The previous two major bear markets in the past 45 years took five years from top to bottom. The Australian market peaked in 1969 and bottomed out in September 1974. It took about another four years to breach the previous record.
Similarly, in 1987 the Australian sharemarket crashed, losing 49 per cent in just four months. It did not gain any traction until November 1992, staging a 60 per cent rally over 14 months. However, it wasn't until 1995 though that a new record high was set.
The rally that kicks off in late 2012 or early 2013 might just stick this time and those still in the game could enjoy tremendous gains. This scenario might be too rosy for many who only see gloom on the horizon. This is understandable given most of us are gun shy. However, history tells us that at some stage the bear crawls back into its cave.
Former fund manager Matthew Kidman is a director of WAM Capital.
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