S&P 500 is at risk of hitting a new low as angst persists

NEW YORK -- Stock market bottom? Or bottomless money pit?

On Nov. 20, calls of a bottom rang out on Wall Street when investors hit the panic button, a gauge of market fear climbed to levels never seen before and stocks stopped falling after a 13-month drop of 52%.

But now, amid a deepening recession and after the worst week for stocks since the November swoon, the prior bear market lows that Wall Street hoped would act as a final price floor are in jeopardy.

Last week, the 30-stock Dow Jones industrial average closed at a fresh bear market low. That's prompting fear that broader market gauges such as the Standard & Poor's 500 also will sink to new lows and potentially set the stage for another down leg for stocks.

As is often the case when stocks appear on the brink of a major breakdown, the S&P 500's rebound Friday from a big dip that brought it within 2 points of its Nov. 20 closing low of 752.44, was viewed as a hopeful sign. But analysts say the reprieve likely will be short-lived. The benchmark index, they say, is at risk of falling further and carving out a new lower low.

"One thing we know about markets is that selling begets selling, and that is the risk," says Quincy Krosby, chief investment strategist at The Hartford.

Analysts that glean future market moves from stock chart patterns, investor sentiment measures and profit forecasts warn that the S&P 500 could fall 15% to 20% more if the lows don't hold.

Krosby says the stock market is a measure of how the nation feels about itself.

"The Dow is reflective of the national mood," she says. "Right now the mood is very pessimistic and signals a negative outlook and a lack of confidence."

The stock market is struggling again in 2009, following a 38.5% loss for the S&P 500 last year. The large-company index, which is tracked closely by professional investors, closed Friday at 770.05, down 14.7% for the year and 50.8% off its record high of 1565.15 set on Oct. 9, 2007.

Investor angst is being driven by the economic fallout from the imploding housing market and weak state of the nation's banking system. The drying up of consumer credit caused by problems at banks saddled with bad mortgage debt is creating even more downward pressure on the economy and corporate profits.

There is a growing belief among investors that the battered economy isn't likely to improve quickly, despite massive government intervention. Investor confidence hasn't turned up despite quick moves by President Obama and Congress to stimulate the economy and forestall the growing mortgage foreclosure crisis.

Wall Street gave the government's $787 billion stimulus package signed into law by Obama last week a chilly reception, arguing that it was long on so-called pork spending and short on programs that would provide a quick shot of adrenaline to a worsening economy.

"There was a belief that the stimulus would be enough to get things back on track, but now there are growing doubts that is the case," says Jack Ablin, chief investment officer at Harris Private Bank.

Heading into the year, investors were optimistic that the Obama team could come up with the right fix, but much of that hope has been dashed. Statistics from Wilshire Associates illustrate the eroding optimism: Since the original stimulus package was passed by the House on Jan. 28, the Dow Jones Wilshire 5000 index has fallen 11.5%, or $1.2 trillion, and its U.S. Banks index is down 34.3%.

Six years to break even?

Given the magnitude of the losses, some investors worry that their nest eggs have been so depleted that they won't be able to retire. Some wonder if they will ever again see the money they lost.

"I have some apprehension every time I look at my 401(k) statement," says Grace Cooling, an engineer in Houston. "I hope the market recovers in the next 10 years."

Cooling, 42, says she has not bailed out of stocks or lost faith in the stock market but admits to stashing new money in safer but low-yielding certificates of deposit. "My biggest fear," she says, "is that my investments may not recover."

She is not alone in her search for safety. Investors are piling into assets viewed as havens, such as short-term Treasury bills and gold, as well as cash. In mid-February, there was nearly $4 trillion parked in money market mutual funds, vs. $3.4 trillion a year ago, according to Crane Data.

"Several hundred billion is true cash seeking shelter," says Peter Crane, founder of the money market-tracking firm.

David Hefty, CEO of Cornerstone Wealth Management, is preaching defense for now. But says many investors are likely suffering from financial paralysis.

"They are in the Land of Oz," he says. "Their investment plan is closing their eyes, clicking their heels three times and hoping their portfolios go back to where they were in October 2007." Investors shouldn't expect a V-shaped recovery, nor rule out lower lows. Hefty says it will take a long time to get back to even.

A recent analysis by Bespoke Investment Group found that the S&P 500 could get back to its record high by August 2011 if the market generates annualized returns of 25%. Using more conservative projections, such as an annual return of 10%, which is the long-term average, it would take six years to earn back losses.

For investors exiting stocks for the safety of long-term government bonds, the break-even point is 20-plus years away.

Tough "years often cause investors to give up on stocks," notes Paul Hickey of Bespoke. But, "The cost of safety certainly comes at a price."

Staying fully invested in stocks also might come at a steep price. Experts say many of the conditions associated with a true market bottom are missing:

•Not enough fear. At market bottoms, people are scared, really scared, so scared that investors who want out of stocks, get out. As a result, a closely watched Wall Street "fear gauge," known as the VIX, normally shoots to the sky. On Friday, the VIX closed above 49. But that doesn't come close to the fear level on Nov. 20, when the S&P 500 hit its bear market low, and the VIX topped 80.

"We haven't seen a true fear spike, and that usually means there is another shoe to drop," says Price Headley, chief analyst at BigTrends.com.

•Not enough bears. Too few investors have given up hope and turned bearish, which normally occurs at troughs, says Todd Salamone, senior researcher at Schaeffer's Investment Research.

The number of investment newsletter writers who said they were bearish last week, for example, was well below the number of bears in November when the lows were put in. Similarly, 56.7% of investors surveyed last week by the American Association of Individual Investors said they were bearish — nearly double the long-term average. However, that was still fewer than the bears present at the panic lows hit in October and November 2008, and in March 2008, when JPMorgan Chase bought Bear Stearns when the Wall Street bank was on the verge of failure.

"The mentality is, we're down 50%, how much lower can we go?" Salamone says. "If the lows get taken out, those types of investors are potential sellers."

•Not enough good economic news. Stocks historically turn up before the economy. But that hasn't occurred yet because the economic data, ranging from home sales and job losses to retail sales and factory orders, keep getting worse. That is forcing economists such as David Rosenberg of Merrill Lynch to continue to lower 2009 and 2010 profit projections for U.S. companies. Stocks are not going to shoot higher until there are signs that the economy is getting better. And that will depend on how successful Obama's stimulus plan is in jump-starting the economy.

Another big wild card: how effective the bank rescue plan, details yet to come, will be in restoring confidence in banks and getting credit flowing.

Buying opportunities

So how low is low? Rosenberg sees the S&P 500 bottoming at 666, or a 13.5% drop from Friday's close. His call, laid out in a recent report, is based on a combination of a dour earnings outlook for 2009 and historical data that show the S&P 500 tends to trough during recessions when the market is trading at 12 times the earnings projection one year out.

Don't rule out 600 on the S&P 500, says Kevin Lane at FusionIQ. He stresses that buyers have come in on many occasions since 1997 to provide support for the S&P 500 at around the 740-to-780 range. The 740 level held in November, as well as three times during the 2002 bear market. "The next stop on a violation of 740 would be the 600 level," Lane notes.

If that occurs, "It will present one of the best buying opportunities in a long time," says Bruce Bittles, chief investment strategist at R.W. Baird.

Adds Ablin, "752 on the S&P is like a final line in the sand." Only time will tell if that line gets washed away.