Morgan Stanley says the bear market is not over

Morgan Stanley has decided the bear market is not over and - coincidentally or not - leading shares have lost all their early gains and turned south.The bank's much followed strategy team led by Teun Draaisma has moved its recommendation on equities from neutral to underweight, following the recent rises in global markets. They said in a 12 page note today:

"We continue to prefer cash over equities as we have done throughout most of this bear market, and we continue to prefer earnings stability, strong balance sheets and low valuations. After the recent strength in equities, with European equities up 17% and the S&P 500 up 25% from their troughs, we now move 5% out of equities into bonds. Thus, our new asset allocation is +5% overweight cash, neutral bonds, -5% UW equities."

As for the bear market - correctly called by Draaisma - the team said:
"We have to decide whether this is towards the end of another bear market rally that we should sell into now that hope has grown, or the start of a much larger advance, maybe even a new bull market. Our decision is to sell into strength now.
"Our three signposts to identify the end of the bear market do not flash green. We wish to wait for fundamentals to be close to trough before turning more bullish. The three fundamentals we look at are: 1) earnings; 2) US housing; and 3) banks' balance sheets. Our three preferred measures are: 1) reported return on equity ex financials below its long-run average of 12.8% (latest 17.4%); 2) inventories of unsold homes below 8 months of sales (latest 12 months); and 3) senior loan officer (SLO) survey better than -20% of SLOs tightening lending standards (latest -64%).

"Other reasons to sell: after the biggest valuation overshoot ever, in 2000, we have not had a meaningful valuation undershoot. Weekly unemployment claims have continued to rise. Some fixed income markets have fallen to new lows even recently.

"Where could we be wrong? Our move today could easily be too early as the rally could continue for positioning and 'second derivative' reasons. In addition, if policy action is successful in repairing banks' balance sheets and putting a floor under house prices, the next bull market may have already started. Two of our signposts – the SLO survey and inventories of unsold homes – would tell us at some point that we have missed the turn and we should stop being bearish."

On top of that Morgan Stanley's strategists claimed the bear market was not yet over, despite recent stock market strength. They said:
"We have to decide whether this is towards the end of another bear market rally that we should sell into now, or the start of a much larger advance, maybe even a new bull market. Our decision is to sell into strength now."

David Buik of BGC Partners said:
"Frankly the market needs to clear itself out, take some profit – not too much, about 200-250 points and rebuild again. It was the US futures that persuaded London that it could not hold onto early gains. On both sides of the pond, equities are in quite good shape but there are still some fairly substantial economic fences to take a cut at. Also, first quarter earnings which start this week in the US and next week in the UK, may not make particularly pretty reading. It would also be helpful to get a little further down the road with toxic assets and quantitative easing before we start to feel comfortable with the market."