Morningstar - Q2 2020 - 22

Dispatches

EXHIBIT 1

Black Monday In 1987, the four bear-market stages played out relatively quickly.
Growth of $10,000

S&P 500

$12K
Recognition

10

Stabilization

9.23
8

Anticipation
Panic

06/1987

08/1987

10/1987

02/1988

04/1988

EXHIBIT 2

Financial Crisis This bear market provided a classic case of the four stages.
Growth of $10,000

S&P 500

$12K
10
Recognition

Anticipation
Panic

8
6.99
6

Stabilization

4
08/2008

10/2008

12/2008

02/2009

04/2009

Source: Morningstar Direct.

Recognition

surprise that the conventional
Panicwisdom was
wrong. Investors' faith is tested-and some are
found wanting. They sell first, then ask
questions later.
By March 23, we were in stage two. Along with
1987's bust, the current crash-it fully deserves
that name, with the Dow falling 37% from its peak
-has been the fastest stock market descent since
the Great Depression. It is difficult to apply rational
analysis when so much happens so quickly.
Stage three is stabilization. The panic subsides,

but the situation remains grim. Investors believed
during the first stage that stock prices slide on
a whim. Now they realize that equities stumbled
for good reason, and that until that reason

22

Morningstar Q2 2020

shows how the four stages played out
33 years ago, after Black Monday.
EXHIBIT 1

6
12/1987

Source: Morningstar Direct.

06/2008

Stage four is anticipation. This is when stocks
start their recovery. As with the bear market's
beginning, almost nobody recognizes its end until
after the fact. The news at the time tends
to be almost unrelievedly grim, accompanied
by articles about how stocks' golden days have
passed. However, some investors perceive
economic improvement distantly in the future.
They make their bids, and stocks begin to rise.

Anticipation

is eliminated, they will continue to struggle.
Stabilization
Shareholders' losses will not soon be recouped.

It appears that's where we are as of March 31.
Stocks have halted their decline and even
rebounded a little, thereby ending the impression
that they will do nothing but fall.
This period is marked by turbulence. Stocks rally,
sometimes furiously, only to be knocked back
down. Investor sentiment varies between guarded
optimism that the end is at least remotely in
sight and despair that the hope was false. This is
typically the bear market's longest period,
extending for several months. (Several years for
the Great Depression, but we do not wish to
emulate that example.)

A classic case occurred in March 2009 during
the global financial crisis, as shown in E X H I B I T 2 .
The recession was in its terrifying midst.
Real U.S. gross domestic product declined that
quarter, and the next quarter, and the quarter after
that. The Morningstar Ibbotson Conference
was held that month to empty seats, with the
keynote speaker predicting several more months of
equity losses. The rally began the next day.
The stages also apply to bear markets that
are primarily caused by recession fears, including
the much smaller slump of 1990, and 1981's
decline, and 1970's sell-off. Of course, the details
for each of those markets vary, sometimes
substantially, but the pattern is roughly similar.
However, the blueprint does not work for bear
markets that arise from other causes. For
example, the stock market's grinding decline from
1973 through 1974 doesn't map well to the
four stages, because it was caused by steadily
increasing inflation fears. The 2000-02
technology-stock implosion also fails the test,
because the major concern then was that
equity prices had risen too high, not-aside from
some of the Internet stocks-that earnings
would disappear.
The question then becomes, does the current bear
market fall into the first category or the second?
The former would be greatly preferable. With
that scenario, the enormous uncertainty about the
spread of the coronavirus and the economic
damage that the containment efforts will wreak
disappears over the next few months. The
problems will remain large, but they will at least
Morningstar - Q2 2020

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