Is the bear market going into early hibernation?

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By Nicole Goodkind • Friday, August 19

Good morning. In today's newsletter: Does the summer rally mark the return of a bull market, or are investors getting fooled by a bear market bounce? Plus, San Francisco Federal Reserve president Mary Daly says rate hikes will continue at least into 2023.

US stock futures are falling Friday. Markets in Europe also lost ground in early trading, while stocks in Asia ended mixed.

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What's happening now in markets:

▼ Dow futures 33,718 (-0.77%)

▼ S&P futures 4,246 (-0.95%)

▼ Nasdaq futures 13,381 (-1.05%)

▲ US 10-year yield 2.880%

▼ Gold $1,764.20 (-0.40%)

▼ US oil $88.63 (-2.07%)

▼ Bitcoin $21,479.37 (-7.37%)

MARKET DATA AS OF 7:25 AM EDT

MARKET FLASH

Has the bear market gone into hibernation?

The bears and bulls are at it again.

Markets have seemingly recovered from a miserable downturn in mid-June that sent the S&P 500 down more than 20%, but analysts and investors can't tell whether it's clear skies ahead or if they're in the eye of the storm.

Things are looking pretty good right about now. The 9.2% return in the S&P 500 last month marked its best July since the Great Depression.

Jurrien Timmer of Fidelity Investments noted recently that 88% of all stocks in the index are currently sitting pretty above their 50-day moving average. "If this rally continues much further than it has so far, on a historical basis it will be hard to conclude that this is not a new bull market," he wrote.

Fears of a recession, 40-year high inflation rates, and historically aggressive rate hikes from the Fed painted a pretty dismal picture earlier this summer, and markets reacted accordingly. But thanks to a strong July jobs report and lower-than-expected inflation, there seems to be a growing belief that the worst may be over. Wall Street is getting greedy again.

"Strategists and economists should have a healthy dose of humility right now. The market was pricing in a recession, but all these economic reports came out that said, 'not so fast. Maybe there is a soft-landing potential,'" said Keith Lerner, co-chief investment officer at Truist. "Now the market is pricing in optimism that we're going to get through this. It's in 'party on' mode."

The minutes from July's Federal Reserve meeting showed that central bank officials think that a soft landing is well within reach.

But the minutes also noted that the full effects of tightening policy have not yet been felt.

In the last 50 years, only one bear market -- which happens when stocks close down 20% or more from their most recent high was not accompanied by a recession. That was the market crash of 1987.

There have been 17 S&P 500 bear markets (or near bear markets) between World War II and this current dip, and they had an average drop of nearly 30% and a duration of about a year, according to an analysis by LPL Research. We're nowhere near those numbers. There's been no recession and it's only been two months. Empirically speaking, we should be bracing for more losses.

Then again, August tends to be a strange month for markets. People are on vacation, and low trading volume often leads to more volatility. September, meanwhile, is on average the weakest month of the year for markets. This could easily just be a bear market bounce. A little upward blip before another fall.

"We view this as a bear market rally," wrote Bank of America analysts in a note on Tuesday, adding that they're pretty common and occur 1.5 times, on average, during bear markets.

Morgan Stanley Wealth Management's Lisa Shalett lays it out like this: "With another 75-basis-point hike in the fed funds rate, inflation metrics rolling over and recession indicators flashing red, both stocks and bonds have rallied on the prospect of a policy pivot. Mission accomplished? Not!"

VOICES

Germany's Rhine shrinks below critical level

"It is only a matter of time before plants in the chemical or steel industry are shut down, mineral oils and building materials fail to reach their destination, or large-volume and heavy transports can no longer be carried out."

HOLGER LÖSCH, DEPUTY DIRECTOR OF THE FEDERATION OF GERMAN INDUSTRIES

Read more from CNN Business.

NEWS ALERT

Expect interest rate hikes to continue into 2023

Fed officials say there's still a long way to go.

San Francisco Federal Reserve president Mary Daly told CNN's Julia Chatterley Thursday morning that raising interest rates by either half or three quarters of a percentage point in September would be a "reasonable" way to bring inflation down.

The hikes would follow back-to-back 75-basis point increases by the Federal Reserve, intended to tackle white hot inflation, which remains near a 40-year high.

Last month's Consumer Price Index, a key inflation measure, showed that rising prices took a bit of a breather. "There's some relief, and I was really pleased to see that, but I don't count on it," Daly told CNN's Julia Chatterley. "We have a lot of work to do at the Fed to bring us back to price stability."

Daly doesn't see the Fed easing interest rate hikes anytime soon. She predicts they'll continue into at least 2023, but says that's ultimately a good thing — even if Wall Street investors don't agree.

"There is a lack of understanding in the markets, but consumers seem to understand," she said. "They depend on the Fed to not introduce unnecessary volatility. The worst thing you can have as a business or a consumer is to have rates go rapidly up and then come down. ... It just causes a lot of caution and uncertainty."

A raise and hold strategy has historically paid off for the Fed, she said. The central bank is actively trying to warn against the idea of a "large hump shaped rate path, where we'll ratchet up really rapidly this year and then cut aggressively next year."

Still, the Federal Reserve must walk a tightrope between triggering a recession and raising interest rates, and fears of a severe economic downturn have been growing in recent months. Daly doesn't see that happening. "When we look at the data instead of the, you know, the worst case scenarios, I feel really relieved," she said.

UP NEXT

Earnings from Deere and Foot Locker.

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FINAL WORD

Something's weird in the US housing market

Something strange is going on in the housing market.

New home sales dropped for the sixth month in a row in July, reports my CNN Business colleague Anna Bahney. At the same time, prices kept going up. The median home price was $403,800 in July, up 10.8% from a year ago.

"We're witnessing a housing recession in terms of declining home sales and home building," said Lawrence Yun, the National Association of Realtors chief economist. "However, it's not a recession in home prices. Inventory remains tight and prices continue to rise nationally with nearly 40% of homes still commanding the full list price."

As my colleague Allison Morrow has written, there's a few reasons for this situation, which has left neither buyers nor sellers happy. Mortgage rates are higher. Sellers are too greedy. And as Yun points out, supply is still a problem.

All that isn't particularly helpful if you're a renter, either. Prices there, too,

are surging higher.