Are stocks back in a bull market or is this just a bear market rally?

“The extreme pessimism of the first half of 2022 seems a distant memory” on Wall Street, says Nicholas Jasinski in Barron’s. “War in Europe, runaway inflation” and “a behind-the-curve Federal Reserve” saw US stocks suffer their worst first half in more than 50 years.

Yet the S&P 500 index gained 17% between its June lows and 16 August, while the tech-heavy Nasdaq rose more than 20%, a milestone widely considered to herald a new bull market. The FTSE 100 rose 7% over the same period.

Why confidence has grown

This summer’s rally has proceeded in two stages, says Thomas Mathews of Capital Economics. “Until early August” it was driven by “unwinding of expectations for Fed rate hikes” amid bets that a slowing economy would soon show inflation the door. Since then, growing confidence that the US is heading for a “soft landing” in the wake of solid corporate results and continued strength in the jobs market has kept the bulls running.

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“The S&P has retraced 50% of its losses from the 3 January high to the 16 June low,” says Bob Pisani for CNBC. That has encouraged some to argue that the bear market is over. “History reminds us that the S&P 500 never set a lower low in any post-World War II bear market after recovering 50% of that peak-to trough decline,” says Sam Stovall of CFRA Research.

There are other reasons to hope this rally might stick, says Tom Stevenson in The Telegraph. Rather than being driven by the technology and growth stocks that led the post-pandemic upswing, market leadership has shifted towards “utilities, energy and dividend paying shares”. That makes this feel like a fresh bull market rather than a rehash of the last one.

On the other hand, this summer’s rally has brought renewed interest in meme stocks such as Bed Bath & Beyond, a market mania with a distinctly 2021 flavour. Speculative options trading, “a popular vehicle for retail investors looking to place leveraged bets in hopes of outsized gains”, has also made a return, says Saqib Iqbal Ahmed on Reuters. Ten-day average daily trading volume of single stock options is “at a more-than six-month high”, according to data from Trade Alert.

Investment bank traders warn that the bounce has been “driven by hedge funds unwinding bearish bets”, say Eric Platt and Ortenca Aliaj in the Financial Times. This summer’s rally has forced hedge funds to cover “short bets” they had made earlier this year, but that doesn’t suggest there is much “conviction” around that this is a new bull market. “There is no real follow-up from long-only or fundamental buyers, who are largely on the sidelines,” says Justin Cummings of Savoy Capital.

Investors seem to be pricing in a lot of good news, says The Economist. “Inflation is far from being vanquished” and the Fed, “having been late to react to the inflation surge… is unlikely to turn on a dime”. China’s economy is slowing and Europe is heading for a gloomy winter. And as experienced investors will tell you, “most past market downturns included plenty of breathtaking bear-market rallies before... prices resumed their downwards march”.