Dead Cat Bounces

Key Points – Dead Cat Bounces

Are We Experiencing a Dead Cat Bounce or Is the Bear Market Over?
Reviewing the Dead Cat Bounces of 2022
What Is the Yield Curve Looking Like?
The Fed Wants to Raise Unemployment to Crush Inflation
The Anatomy of a Bear Market and Dead Cat Bounces
18 Minutes to Read | 35 Minutes to Watch

Is this another dead cat bounce or the beginning of the next bull market? Dean Barber and Bud Kasper look into the dead cat bounces that we’ve had so far in 2022 to get a better idea of what the answer could be.

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Show Resources:

Find links to the resources Dean and Bud mentioned on this episode below.

What Is a Dead Cat Bounce?

Dean Barber: Thanks so much for joining us here on America’s Wealth Management Show. I’m your host, Dean Barber, along with Bud Kasper. I have a question for you, Bud. Have you ever heard of a cat having nine lives?

Bud Kasper: Sure.

Dean Barber: Well, there’s a term in the financial markets called a dead cat bounce. A dead cat bounce is essentially a period during a bear market where the market seems to have bottomed out and then begins a rapid ascent to the upside. That’s called a dead cat bounce. There are other names for it too, such as a bear market rally or bear market trap.

There are a lot of things going on out there right now. The latest inflation numbers came in 0.2% lower than anticipated and then wholesale prices were 0.2% less than anticipated in the increase. This has sparked a huge rally in the stock market. So, the question is, is this the signal to the Fed that it’s OK to ease up interest rate hikes and be done with them soon because inflation is moving downward as opposed to continuing upward?

Is This Another Dead Cat Bounce or Is the Bear Market Over?

Bud Kasper: My answer to that is no. The Federal Reserve is not going to think that the things are getting better just on those two measurements. I listened to Jerome Powell’s announcement that the Fed was doing another 0.75% rate hike and wasn’t encouraged. The next FOMC meeting is December 13-14. They’re anticipating another 0.75% hike.

If that’s the case, that’ll be our fifth 0.75% move on top of the 0.5% and 0.25% moves before that. I wish his language was kind of hinting that we’d be in a position where we could start to go back to some sense of normality. But the danger is that if they only did a 0.5% hike in December and it doesn’t accomplish what the Federal Reserve wants to accomplish, then that will certainly tell us that we’re not there.

Check Out Our Latest Webinar: Inflation Expectations for 2023

Dean Barber: It’s hard to imagine that we are there. I just recorded a video with AllianceBernstein Regional Director David Mitchell that’s titled, Inflation Expectations for 2023. AllianceBernstein is one of the largest money management firms in the country and very respected in their forecasting abilities. David was very insightful in the video as to what’s going on with inflation. He reviewed several charts to help people understand what’s happening.

This is the most protracted bear market cycle that we’ve been in since the Great Recession. We had a bear market that was deeper during COVID but it was the fastest bear market top to bottom that Bud and I have ever seen. I think people are now to a point where they’re asking, what’s really happening here? What is causing the markets to do what they’re doing? What’s the anticipation for the future? How are we going to cool inflation? David sheds some light on the status of inflation and our economic outlook for 2023, so I encourage you to watch the video. It was part of our Modern Wealth Management Educational Series.

Bud Kasper: What the Federal Reserve is doing at this particular point is like trying to roll over a mother bear while it’s hibernating. The issue at hand is this could be a bear market trap—a dead cat bounce—from that perspective. I think we need to be cautious with this.

What’s Powell’s Plan?

Everybody wants a sense of reality to come back. But what Powell said didn’t indicate that. The last thing they want to have to do is a 50% hike then a 0.25% to taper the raising of rates, but then have inflation come roaring back. Then he’d need to say that it didn’t work. The market wouldn’t like that.

Dean Barber: He did say that he would rather go too far than not far enough.

Bud Kasper: That’s a great quote.

Having a Financial Plan Can Make a Difference

Dean Barber: This is not about timing a market or making investment decisions based on these types of things. If you have a solid financial plan put together and have identified what your money needs to do for you to accomplish your objectives, then you’ve already built the portfolio that’s designed to withstand these times with the highest probability of success. If you haven’t done that, then you’re reacting to news and investing based on emotion. That’s where people get hurt.

Even if people haven’t heard of the term, dead cat bounce, they’re thinking about it without realizing it. Because people want to know whether we’re in a dead cat bounce or if the bear market is over. Is there more pain to come? Or is this the end of the bear market and now we’re off to the races because we’ve started to see a slight decline in the rate of inflation?

Bud Kasper: I don’t know where the term dead cat bounce came from. But to use a synonym, this is a head fake. We’ve taken all this return away from you, but now we’re starting to get some return back. That’s the dead cat bounce. I’ve never heard a dead cat bounce jumping back into a full-fledged bull market.

Turmoil in the Tech Industries … and Many Other Industries

Dean and I were talking earlier about the major technology players that are now letting people off by the thousands. That’s an indication that in the throes of what we’re experiencing right now, we still have some additional pain that’s in front of us.

Dean Barber: I agree. Let’s talk about we’ve had some dead cat bounces so far this year.

Bud Kasper: We’re in one now.

Dean Barber: We don’t know that, but it looks like it.

Bud Kasper: It’s just a kitty bounce.

Dead Cat Bounces of 2022

Dean Barber: I think we’re going to be proven correct, but time will be the teller of that. Let’s discuss some of the dead cat bounces we’ve seen this year. SPY is an ETF that’s designed to mirror the S&P 500 index. On March 14, it closed at $417. By March 29, it closed at $461. That’s a 10.55% run-up in just 15 days. To some people, that might have felt like the end of the bear market.

Now, let’s fast forward to June 17. We’re back down to $365. So, we had a 10.55% run-up followed by an almost 20% drop. By August 16, we were back up to $430. That’s a 20% run-up that starts making you think that everything is good now. But suddenly, old bear came back. On October 13, we were back down to $365.

Bud Kasper: So back where we were.

Dean Barber: That’s the anatomy of a bear market. We now have a run-up. We’re sitting back at $398. Our 200-day moving average is at $406. It seems that there’d probably be some resistance there, but I don’t want to get too technical with that. The bottom line is that there are going to be rallies‑dead cat bounces—during bear market cycles that are going to make you think that everything is OK.

Taking Emotion Out of Your Financial Decisions

Like I said earlier, if you don’t have a solid plan put together and don’t have an allocation that you know has the highest probability of achieving your objectives with the least amount of risk possible, you start making investment decisions based on emotion. That’s a very dangerous proposition. So, if you are in any way, shape, or form emotional about what’s happening in the markets today, that means you lack a comprehensive financial plan. That means you lack clarity.

If you have that plan in place, you have the clarity which gives you confidence, which ultimately gives you control. If you don’t have the clarity, confidence, and control that you feel you should have, it’s easy to get it. It takes a little bit of work with putting the plan together with a CFP® professional.

Our CFP® professionals can explain to you how you gain that clarity, how we construct the plan, and how we put it together to give you that clarity, confidence, and control. There’s no cost or obligation for this conversation. I encourage you to get started with building a plan sooner rather than later if you don’t have one. Don’t wait because the longer you wait, the more of a chance you have of watching your assets erode. You have those assets because you worked hard and you sacrificed and you saved. Hold on to them.

Understanding Market Risk

Bud Kasper: I had a couple that visited with me recently for the first time. They already had a portfolio, but there’s so much more to a comprehensive financial plan than investments. I was happy to do some comprehensive planning for them. But they were really worried about their money.

I looked at the risk of it and it had 75% of the risk of the S&P 500, which was down around 20%. They weren’t comfortable with that, so it was time to do some portfolio analysis.

Your Goldilocks Portfolio

Dean Barber: Your portfolio should be your Goldilocks portfolio. It’s the one that’s just right for you. Well, how do you determine whether it’s just right for you or not? That’s what comprehensive financial planning is all about. It helps determine that. As we go through these types of cycles in the market, and we’re asking the questions, “Is this a dead cat bounce? Is this the beginning of a new longer-term bull market? Or is this a short-term bull rally amid a longer-term secular bear market? What is it?” If you’ve designed your portfolio right and have that plan in place, it doesn’t matter because you’ve already done the work.

De-Risking Your Portfolio

Bud Kasper: It’s not that you’re not going to have some pain associated with it, but everybody knows that as an investor, you’re not going to go straight up from that. One of the keys associated with what we’ve been doing is de-risking portfolios.

We’ve been de-risking portfolios since the end of March and early April. I told Dean earlier that if I had de-risked this person’s portfolio just 30 days earlier than what I did, the amount of decline that they experienced would’ve been almost cut in half. When we look at the de-risking that we did, and now look at it over the three to six months, it is a minimal loss.

Dean Barber: Then, you’ve de-risked and get this quick run-up. You’re not participating 100% in this run-up, nor should you. But that can also cause some emotion if people don’t understand what it is that we’re looking at and why we’re doing what we’re doing.

Financial Education Is Essential

That’s why I again encourage you to watch my video titled, Inflation Expectations for 2023, with David Mitchell of AllianceBernstein. AllianceBernstein is one of the largest money managers in the country. There are a lot of good charts in the video that help explain what’s happening in the economy so that you can make some sense over what’s happening in the markets as well.

Bud Kasper: That’s great for people to see. That’s the value of having a video. People can see the charts and hear experts explain them to get a little more comfortable with the subject matter.

Dean Barber: And the cool thing about having the video out on YouTube is that you can pause it, rewind, and make sure you understand everything. You can stop and research things at your own pace. We put the educational videos out there because we want you to make informed, intelligent financial decisions. That’s the whole objective. We started America’s Wealth Management Show almost 20 years ago to educate and inform.

Bud Kasper: And it doesn’t cost you a dime. You’ll find value in it, I guarantee you.

Dean Barber: You said guarantee. You sound like an annuity salesman now.

Bud Kasper: Yeah, that’ll be the day.

How Many Dead Cat Bounces Will We See?

Dean Barber: Like I said at the beginning of our conversation, we don’t know if we’re in the middle of a dead cat bounce, but it sure seems like it. This would be the third dead cat bounce of 2022.

We said a cat has nine lives. That doesn’t necessarily mean there’s nine dead cat bounces within the bear market. That’s not where that little saying came from. But I think people want to be optimistic. They get excited when we start having a little bit of a bull run in the market and they’re hopeful that it’s over.

However, the reality is that you need to understand the technicalities that are behind what’s happening today. And if you can understand the technicalities, it doesn’t necessarily mean that you can say when everything is finished and when the next bull market is going to begin.

But if you can understand some of the technicalities, it’ll at least allow you to be a little bit more informed. You can have a better understanding of what’s happening and what kind of potential downturn is still left in the markets.

The Fed Wants to Raise Unemployment to Crush Inflation

Bud Kasper: Let me add to that as well. It’s equally as important to understand the fundamentals. If we don’t have profitability in the companies, there’s no way we’re going to get appreciation in those. Again, look at what is happening with the jobs that are being taken away by the big tech companies. They’re trimming their expenses so their profitability will appear sooner than later when we finally see the economy growing again.

Dean Barber: Last week, we said that Jerome Powell wants to destroy jobs.

Bud Kasper: Yes. That’s true.

Dean Barber: It’s true statement because to get inflation under control, he needs to do that.

Bud Kasper: But is that good for America? Well, it’s not good for all Americans. But it’s a necessary point that needs to happen for us to re-regulate the economy and the markets.

Dean Barber: Yeah. He’s effectively jacked up interest rates to a point where it is it starting to have some impact. We’re going to talk a little bit about that. But before we do, I want to make a point that it’s not just the big tech companies.

There was a huge deal out last week where the tech companies basically said, “The gravy train is over. The cheap money is gone. You better figure out how to run your business or you’re going to crash and burn.”

Bud Kasper: You mean like crypto? Oh, $16 billion wiped out.

What Is a Yield Curve?

Dean Barber: I don’t even want to talk about that. I want to talk about the yield curve. The yield curve is a chart that measures the yield on treasury bonds that are anywhere from three months to 30 years. A normal curve on the yield chart is gradually rising.

In other words, if you put your money in and commit it for three months, you shouldn’t get paid as much as if you’re going to commit it for six months. And you shouldn’t get paid as much for six months as if you were going to commit it for a year, two years, three years, five years, 10 years, etc. The longer you commit your money, you should get more reward. That’s a normal yield curve.

An Inverted Yield Curve

When we have an inverted yield curve, you get paid more for putting your money in for a short period than you do for putting your money in for a long period. Every time the yield curve has inverted has led to a recession. I want to tell you some numbers here. If you got a pencil, write these down. The yield on the three-month treasury is 4.3%.

Bud Kasper: Let’s be clear on that because if you have that for 90 days, you’re getting one fourth of that yield in that specific period.

Dean Barber: Your annualized return is 4.3%.

Bud Kasper: If you did that consistently, the next time, the next time, and next time, you’d have your 4.3%

Dean Barber: Now, you can go with a six-month treasury and get 4.54%. You’re going to get rewarded for putting my money in for an additional three months. If you go for a year, you’ll get 4.6%. That part of the yield curve is OK.

But if you go from 4.6% on the one-year treasury and think you’ll be in the 6-7% range with a 10-year treasury, think again. That’s not what you get right now. If you put your money in a 10-year treasury, the current yield is 3.8%. That is an inverted curve. You’re only going to get 3.8% to commit your money into a treasury for 10 years versus 4.6% if you commit it for one year. That’s 80 basis points, 0.8% greater return for putting your money in for only a year versus putting it in for 10 years. It’s upside down.

This Ties in with the De-Risking That We Were Just Talking About

Bud Kasper: There’s a strategy associated to what Dean is saying. Everything Dean is saying is true. We’ve been using it to take some money that we have in cash and saying, “Hey, here’s an opportunity to get a little bit more return than what we’re getting on money market.” Money markets are increasing as well. It’s part of the de-risking that we’ve been doing for the last five months.

Dean Barber: Just not very fast.

The Market Is Going to Change at Some Point

Bud Kasper: Not very fast, but there’s a spread. There’s a difference between that three-month and what the money market is. It’s still favoring the three-month at this point. But here’s the caveat. The market will change at some point. It wants to change, but it’s got to change on the fundamentals associated with what an economy can rebuild on.

And when that happens, I want dry powder. I want money that I can access instantaneously to gradually put the portfolio back into a normalized format.

Laddering Treasuries

Dean Barber: Let’s think about this. If you had money that you wanted to keep safe, but also wanted to make sure that it’s available for future opportunities, which there will be, you could take half your money, put it in a three-month treasury and half your money and put it in a six-month treasury. And as soon as the three-month one matures, you can buy another six-month one.

Then, your six-month treasuries are maturing every three months. Half of your liquid money is available to redeploy every quarter based on what you’re feeling. So, if you continue to see rates rise on that short end, you can go out and buy another six-month treasury. If you think the Fed is done raising rates and there’s opportunity in the regular part of the bond market, equity market, real estate, or whatever the case is, you’ve got cash and it’s available.

Watch Out for the Financial Salespeople That Are Selling Annuities

There are a lot of financial salespeople in the industry today that will try to scare you. They’ll try to convince you that the only way that you’re going to save your assets is to put your money into this fixed index annuity and tie it up for 10 years. They’ll try to give you a bonus and say that you’re never going to lose money.

Don’t do it to. Just don’t do it. You don’t understand the inner workings of these things. I do. I know how they’re constructed. And I know how they’re built. I won’t put my money in one. And if I won’t put my money in one as a 35-year professional in this industry, then you shouldn’t either.

Bud Kasper: I agree. There are issues associated with those type of investments that aren’t necessarily explained as properly as they should be. And one of them is loss of liquidity.

Dean Barber: It’s way more than that.

Bud Kasper: Because it’s surrender charges.

Market Volatility Isn’t Unfamiliar, but It’s Still Uncomfortable

Dean Barber: I could do a two-hour video in the construction of these products. But I’m just saying don’t do it. We understand how to go about de-risking a portfolio because we’ve seen this market volatility movie before.

Bud Kasper: We have seen it before and it shouldn’t shock us. We know that there are certain things we can do to mitigate some of that volatility. I don’t think you want to take all the volatility away because you don’t want to simultaneously take the potential away. So, be smart about it. Work with a true professional. And most importantly, overlay this into your financial plan to understand the ramifications that these bear markets have on assets from time to time.

Your Plan’s Probability of Success

If your plan was done properly, you’ll likely find that these events are just something that we must live with and manage around to minimize the amount of pain that would be out there. But you know what? We get what is called a probability of success when we go through the comprehensive financial plan. We can take what has happened this year and reflect on whether your probability of success has changed.

Let’s say that going into this year that your probability of success was 95%. That means that 95% of the time, you’re meeting all the objectives that you have for yourself, your spouse, and family and don’t need to make any changes to your plan. The other 5% of the time, you might need to make some adjustments—trade-offs—to your plan. With the market volatility we’ve experienced this year, your probability of success may have fallen to around 95% at the worst. The needle has hardly moved.

Dean Barber: And the reason that happens is because our financial planning process already takes into consideration the possibility of uncertain economic times and market conditions. When you know that, that’s why I’m talking about this clarity and confidence that you can keep doing what you’re doing.

All our CERTIFIED FINANCIAL PLANNER™ professionals and I have had so many conversations with clients this year. We go back to that plan and show them their updated plan. We review their spending and how inflation has impacted what they need to spend? Do we need to reflect a higher income stream into the future because inflation has taken away some of their purchasing power? Let’s put in their current values and build them in.

Preparing for Higher Tax Rates in 2026

We’ve already built in the tax increases for 2026. If you didn’t know, the current tax law will sunset, which means it goes away at the end of 2025. In 2026, everybody will get a guaranteed increase in their taxes.

Bud Kasper: Because it goes back to the rates from 2017.

Dean Barber: Exactly. But the reason why your plan isn’t changing or changing significantly is because you’ve already taken that into consideration. That allows people to remove the emotion from the investing process.

The Gut Check Part of the Financial Planning Process

Bud Kasper: Dean is right. I refer to this as the gut check part of the financial planning process. We take the existing portfolio that the client or prospective client has and back to times like 2008, which was during the Great Recession. We had a 38.5% loss in 2008. Using our financial planning tool, we take their portfolio and put it back in 2008 to demonstrate what that experience would’ve been like for them.

If it comes through and it says you would’ve had a 35% decline at that time, we would ask if you had anticipated that? But more importantly, we’ll go through and look at the results associated with that. We show you the amount of money you would’ve lost in that period and ask how you would respond to that? When we get the response, now we have a way of managing around that risk level.

The Rule of 20

Dean Barber: All right, I’m going to tie this all together. Before we get into what’s happening in the stock and bond markets, I want to talk about the rule of 20. The rule of 20 simply says that if you take the price-to-earnings ratio of the market and add inflation to that number, and the total number is 20, then you are considered to be at fair value.

Today, the price-to-earnings ratio of the S&P 500 is 20.76. So, we’re already greater than 20 just with the PE ratio. When we add 7.5% inflation to that, and now we’re at 28.26. If we’re at 28.26 and fair value is 20, one of two things must happen. The earnings of the companies in the S&P 500 need to go up by 20% next year to get us to fair value or the market needs to come down.

If we come down another 20%, that gets us to fair value. That then takes us to a 35% total loss from January 1, 2022. So, if you think that this whole thing is over, you need to understand the fundamentals. We talked earlier about how the yield curve is steeply inverted, which generally means there’s a recession on the horizon. And Powell has said we will likely go into a recession, even if it’s a mild one. How likely is it that companies in the S&P 500 are going to expand their earnings substantially during a recessionary period?

Bud Kasper: It’s not going to happen.

Understanding the Anatomy of a Bear Market and Dead Cat Bounces

Dean Barber: So, look at the fundamentals and understand that things like what are happening in this short bullish run—dead cat bounces—are typical in a bear market. Go back and study the anatomy of a bear market. And again, I encourage you to watch my video, Inflation Expectations for 2023, with AllianceBernstein’s David Mitchell. We talk about the rule of 20, go through some charts, and review so much more to help give you some idea of where we’re at.

The Difficulty of Making Money in This Market

We have an S&P 500 that is -15.82% year to date. Now, there have been periods where it was down 24%. That was kind of the bottom of the market back on October 12. But it’s now at -15.82%. For people who have done this 60/40 model—60% equities, 40% bonds—guess what? Bonds are down 14.09% over the same period.

Bud Kasper: That explains the difficulty of making money in this market.

Dean Barber: So, here we are with a 60/40 portfolio down 14.6% on the year because bonds are down almost as much as stocks.

Bud Kasper: Dean just illustrated that with the dead cat bounce. Again, this is why it’s important for people see their probability of success of their financial plan. How much would they have participated in the decline back in 2008? If they had a $200,000 drop in the value of their $600,000 portfolio, how would they react to that? Most people would suddenly see it in black and white and say, “Oh my gosh.”

Dean Barber: You can’t do it because it changes your ability to do the things you want to do.

Bud Kasper: And what does that do? It makes them go back and really understand how much risk they should have in their portfolio.

Enhancing Your Financial Education

Dean Barber: We’ve helped hundreds and hundreds of people. By scheduling a 20-minute “ask anything” session or complimentary consultation with one of our CERTIFIED FINANCIAL PLANNER™ professionals, we can help you understand things like dead cat bounces, the outlook of the markets, and importance of a financial plan. You can give us a call, do a virtual meeting, or meet with us in person.

As you start that conversation with one of our CERTIFIED FINANCIAL PLANNER™ professionals, we’ll explain what we do at a higher level and why we’re doing it for you. If you don’t feel quite ready to schedule a meeting with a CERTIFIED FINANCIAL PLANNER™ professional, we encourage you to use our financial planning tool to review some of the things we’ve discussed. As you’re building your financial plan with our tool, we hope that you’ll see how it truly can provide clarity and confidence to your financial plan. You can begin building your plan at no cost or obligation by clicking the “Start Planning” button below.

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Then, if you choose to meet with us, we can screen share with you while using our tool so we can really begin to connect the dots for you. It’s our goal to educate you and as many other people as possible, so make sure to let your friends know about our educational content, financial planning tool, and opportunities to meet with us as well.

Happy Thanksgiving!

We certainly appreciate you tuning in for this episode of America’s Wealth Management Show. We hope that everybody has a very safe and a happy Thanksgiving. We’ll be back with you the weekend after Thanksgiving. Thanks for joining us.

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The views expressed represent the opinion of Modern Wealth Management an SEC Registered Investment Adviser. Information provided is for illustrative purposes only and does not constitute investment, tax, or legal advice. Modern Wealth Management does not accept any liability for the use of the information discussed. Consult with a qualified financial, legal, or tax professional prior to taking any action.