The S&P 500® Index rallied approximately 9% in July, its best month since November 2020, and its best July since 1938, ascending from an important low of 3,666 in mid-June. The bulls have embraced the recent rally despite the geopolitical risks and macro uncertainties. Furthermore, in the latest AAII Investor Sentiment Survey, optimism is above “30% for the first time in over two months and bullish sentiment, expectations that stock prices will rise over the next six months, rose 2.8 percentage points to 30.6%. This is the highest level of optimism recorded since June 2, 2022 (32.0%).”
Against that backdrop, a trio of bullish narratives, such as peak inflation, peak Federal Reserve rate hikes, and retail investors returning from the sidelines, has bolstered investor sentiment. However, are the bulls being naive with the recent rally, falling prey to what Wall Street refers to as a “bear market rally?”
A bear market rally is generally a short-term and often sharp rally in stock prices. During periods of market volatility, bear market rallies (sometimes known as dead cat bounces or bull traps) commonly occur. Per Strategas, the average bear market rally can see gains of approximately 15%, lasting around two months. Therefore, the current market rally is consistent with previous bear market rallies. It would be irrational for investors to become complacent given the uncertain macroeconomic outlook.
For example, with inflation remaining entrenched throughout the economy, interest rates are likely to head higher as the Federal Reserve stays determined to subdue the spike in consumer prices. Without any positive signs in the macroeconomic data, the risk/reward ratio for equities will likely remain tenuous. What’s more, if investors are waiting for a market capitulation, they should avoid the proverbial “bull trap” by not trying to time the market.