SAN FRANCISCO — Happy birthday, baby bull. So far you’re one for the storybooks. What can investors expect in Year Two? If history is a guide, the second verse will echo the first.
One year ago today, the U.S. stock market started to crawl away from its worst bear-market mauling in eight decades, where the benchmark Standard &Poor’s 500 stock index lost more than half of its value.
The S&P 500 is up about 70 percent since its low point on March 9, 2009. Small- and mid-cap stocks fared even better: the S&P MidCap 400 Index gained 88 percent through March 4, 2010, while the S&P SmallCap 600 Index soared 91 percent in that time.
This next year, history may not repeat itself, but as Mark Twain quipped, it could rhyme.
The market’s performance so far has mirrored a pattern common to every bull market since 1949, according to Standard &Poor’s Equity Research.
In a rally’s first year, small-cap and midcap shares typically beat large-cap rivals, though a rising tide lifts all boats. The average first-year gain for small-caps is 48 percent; for large-caps, it’s 32 percent. In addition, low-quality issues generally outdo high-quality as investors get more comfortable with risk. The worst become first, and economically cyclical sectors outperform defensive ones.
During the second year, historically, stocks keep rising — though not as powerfully, said Sam Stovall, chief investment strategist at S&P Equity Research. Small-cap and mid-cap stocks continue to outperform both large-caps and the S&P 500, which still do all right themselves, and higher-quality issues with stable and growing earnings trump low-quality names. Since 1949, Stovall said, small-caps have returned 22 percent on average in the second year of a rally, while large-caps rose 15 percent.
Year Two’s best sectors have been cyclical plays: consumer discretionary, financials, technology and industrials. More defensively positioned sectors improve as well, and one wild card to take note of this year is health care.
This is good news for investors — if there is a second year for the bull. Some market observers, including analysts at Ned Davis Research Inc., believe stocks are in a “cyclical bull” market within a “secular bear” — something akin to the frustrating period between 1966 and 1982 when the market swung between deep depressions and manic highs but never really broke out of a trading range.
If that’s so, said Ed Clissold, senior global analyst at Ned Davis Research, then the bull would have an average lifespan of about 17 months, which would mean the market’s music could stop in late summer.
“We favor emerging markets and resources like energy and materials,” Clissold said. “While the U.S. is in a longer-term secular bear market, a lot of emerging markets are in secular bull markets and are either the producers or heavy users of resources.”
Among U.S. stocks, meanwhile, Clissold said the firm is positive on the consumer discretionary and technology sectors. “Longer-term we have concerns, but for now it keeps working well,” he said.
Stovall is upbeat about the broad U.S. market’s chances for a sustained advance.
“First-year bulls tend to recover an average of 84 percent of what they lost in the entire bear market,” he said, noting that this bull run has retraced about half of the loss. “So you could say that on a recovery basis, we have more room to go.”
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