Correction Or Bear Market?


Major market indexes have come off their highs in recent trading. While the continued failure of the Dow Industrials to close above their all-time high of 16,576.66 is a headwind for this market, we have yet to see a change in the market's primary trend, which remains bullish according to the Dow Theory. 

For a change in the primary trend to occur, the Dow Industrials must continue to fall short of their previous high, then both the Industrials and Transports must close below previous significant lows of 15,372.80 and 7,053.75, respectively. For now, investors should continue to watch the averages and look for portfolio-upgrading opportunities on a stock-by-stock basis.

Rotation continues

At this juncture, the recent decline in the market looks and feels more like a secondary correction than the beginning of a bear market. The decline has been swift and violent, especially in certain market sectors — hallmarks of secondary corrections, especially rotational corrections. Market excesses sometimes correct as investors rotate money out of previous winners and into better values.

Along those lines, recent trading has seen a drop in richly valued momentum stocks and sectors, with relative strength in classic defensive areas, such as large-cap value stocks, especially large-cap dividend payers. A look at the performance of the iShares S&P 500 Value ETF versus the iShares Russell 2000 Growth ETF illustrates this move. The performance of large-cap value stocks has diverged sharply from the performance of small-cap growth stocks in the last 30 days.

To be sure, what looks like a secondary correction could become more serious should the Dow Industrials and Transports close below their previous lows. Whether the market resumes its upward trend or tests those lows could depend to some extent on first-quarter earnings and the guidance that accompanies those earnings. S&P 500 companies' first-quarter earnings are projected to increase just 1% from a year ago, according to Thomson Reuters. The forecast is down from 6.5% at the start of the year.

The reduced expectations have lowered the bar for upside earnings surprises, which could fuel nice gains in the market. Conversely, corporate profits that fail to satisfy investors' lowered expectations would likely lead to further market declines.


For now, the Forecasts is keeping its buy lists at least 95% invested and watching to see if the Dow Industrials can reconfirm the bullish trend by posting to new highs. Investors wanting attractive large-cap dividend payers should consider Focus List selections J.P. Morgan Chase ($59; JPM) and Qualcomm ($79; QCOM).

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