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Market Extra

Aug. 13, 2022, 9:28 a.m. EDT

Nasdaq bull market? A history of head fakes says it’s too early to celebrate.

By William Watts

Before passing out cigars in celebration of the birth of a baby bull market for the Nasdaq Composite, investors might want to take a look back at history.

Sure, the tech-heavy gauge ended Wednesday up 20.8% from its 2022 closing low of 10,646.10 set on June 16. A rise of 20% from a recent low after a tumble into a bear market is a popular parameter for declaring the start of a new bull market. Skeptics, however, point out that the Nasdaq has delivered more than a few head fakes in the past.

Hedge-fund manager Michael Burry, made famous in the book, “The Big Short,” after successfully predicting the collapse of the housing market in the financial crisis, wondered on Twitter: “Nasdaq a bull market because it is up 20% off its low? Who makes this stuff up?”

In the since-deleted tweet, he noted that, “After 2000, the Nasdaq did that 7 times as it fell 78% to its 2002 low.” (Burry often deletes tweets after a short time.)

Indeed, the Nasdaq saw three rallies of 40% or more over the course of the bear market that followed the dot-com burst, none of which marked the beginning of a lasting bull, Ross Mayfield, investment strategy analyst at Baird Private Wealth Management, told MarketWatch in a phone interview.

“Our main line to clients has been that these bear-market rallies can be frustrating but they’re super common,” Mayfield said.

Such are the perils in trying to use the 20% measure as a rule-of-thumb to declare a bull market. In some ways, the start of a bull market is often only crystal-clear in retrospect, not unlike the challenge of determining the start of a recession. While consecutive quarters of contracting gross domestic product are often described as a “technical” recession, it’s not the criteria used by the National Bureau of Economic Research in dating the business cycle.

Besides the qualms over using the 20% threshold to declare a bull, Mayfield said that other characteristics of the Nasdaq’s rally — its breadth, length and magnitude — are a challenge to those looking for real-time confirmation.

The broad stock-market rally has been impressive from a leadership standpoint, and breadth has improved. Looking at the large-cap benchmark S&P 500, around 85% of Nasdaq components are trading above their 50-day moving average. That’s solid, but bull markets usually see a figure above 90%, Mayfield said.

Related : Why the U.S. stock rally looks more like a new bull market than a bear bounce to these analysts

Meanwhile, semiconductor stocks have faltered in recent sessions after warnings from industry heavyweights Nvidia Corp. (NAS:NVDA) and Micron Technology (NAS:MU) Inc. That’s an important piece of the Nasdaq and may represent a vulnerability, he said.

And finally, the rise just hasn’t yet endured long enough to engender confidence in a bull market, Mayfield said, noting that bear market rallies in the past have lasted as long as 60 to 80 to 100 days before turning lower.

That’s not to say that will be the case this time around, but if one wants to call a bull market on magnitude and duration alone, “it needs to be more convincing than having just ticked over the 20% mark in six or so weeks,” Mayfield said.

Mark Hulbert: This 20% Nasdaq gain doesn’t mean we’re in a new bull market

The Nasdaq fell 0.6% on Thursday and remains down more than 20% from its record close in November. The S&P 500 (S&P:SPX) remains in a bear market but has bounced nearly 15% from its 2022 low set on June 16, while the Dow Jones Industrial Average (DOW:DJIA) has skirted a bear market decline.

While the jury’s out on whether the Nasdaq is in a new bull or merely a bear-market bounce, investors should look to shift toward higher quality stocks, particularly in tech and growth, while trimming exposure to lower quality assets, Mayfield said. The zero-interest-rate and heavy liquidity environment that accompanied the last bull market is unlikely to be repeated in the next market cycle as the Federal Reserve deals with the aftermath of the inflation surge, which means investors will need to be choosier when attempting to select winning stocks.

“We’re certainly not bearish,” Mayfield said, “but this is a good opportunity to reshape towards quality with what we think will still be a challenging 6 to 12 months ahead with where inflation is, what the Fed is still doing” and continued geopolitical uncertainty on the horizon.

Read next: Have stocks bottomed? Not until this ‘gorilla’ in equity markets budges, warns BofA.

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