The latest Consumer Confidence report was released on Thursday and it showed a sharp drop in December. The index dropped to 128.1 for the month and that is down from 136.4 in November. The index peaked at 137.9 in October and has ticked down since then.
If you are frequent reader of my articles, you know that I view the consumer confidence numbers from a contrarian perspective. When the index gets too high, you need to keep an eye on it to see when it starts falling.
The 128.1 reading is still pretty high, but it is down 7.1% from the peak. I have studied the consumer confidence report over the years and I have come to the conclusion that elevated readings aren’t necessarily a bad sign. But when the index is above the 100 level and then starts falling, THAT is a bad sign for the market.
Looking at the bear markets in 2000-2002 and 2007-2009, the markets seemed to really turn lower when the consumer confidence index fell more than 10% from its peak. In 2000, the index had readings above 140 for most of the year. It was in January 2001 that the index fell over 10% from its peak in 2000.
In 2007, consumer confidence peaked in August and fell by more than 10% in October.
In both of these cases, investors were likely having discussions like the one many are having today. Is this just a correction or is this the start of the next bear market? In my opinion, this seems more like the start of a bear market.
I will certainly be looking closely at the January Consumer Confidence report to see if it is below 124.1—that would mean a 10% drop from the peak of 137.9. If that is the case, I think the case for this being the beginning of a bear market will be strengthened.
Even if this is the beginning of a bear market, that doesn’t mean you should panic and move everything out of stocks. In the first quarter of 2001, we saw the S&P rally up to its 104-week moving average (two years of data) before it resumed its downward trend.
In the bear market from 2007 to 2009, the S&P rallied from March to May of 2008, but the rally was halted at the 52-week moving average and then the index resumed its downward trend.
There are numerous signs pointing to this being the start of a bear market and the consumer confidence level is just one of those signs. Even if it comes in below 124.1, we could still see stocks moving higher in the first part of the year.
Personally, I have lowered my equity allocations on several occasions this year. If the consumer confidence reading does show a drop of 10% from the peak, I will lower them once again. I will still have some money allocated to stocks, but it will be a much lower allocation than it was a year or two ago.
As we start to see the S&P move back up, I will be watching to see if it moves back above its 104-week moving average. If it does so, I may increase my equity allocation a little. If it moves back above its 52-week moving average, that could serve as another point to bump my equity allocation a little. If the 13-week moving average makes a bullish cross above the 52-week, that could be another small bump in the equity allocation.
The point is, you don’t have to go from an 80% allocation to stocks down to 0% in one big move. You can lower your equity allocation in small steps as the market is going down and you can do the opposite when the market starts to move back up. The idea is to have less exposure during a bear market and you aren’t trying to time the exact top. When the market looks like it has hit bottom and starts heading back up, you slowly start to increase your allocation and you aren’t trying to guess whether a low has been reached.