The bear market in stocks in 2022 began like most others in history: with a deterioration in the number of companies participating in the market uptrend. Initially weakness is seen in the smaller more speculative stocks and over time it migrates into the large capitalization companies. In the end, no stock is spared as selling overtakes the market and investors clamor for liquidity. From the rubble, a group of companies holds up better than the rest and a subset of this group becomes the leaders of the new bull market.
In early February 2021, the number of companies in the NASDAQ Composite Index trading above their 200-day moving averages (a broad measure of market trend) peaked at just over 91%. From that time forward the number of companies participating in the uptrend persistently declined despite the market making subsequent new highs.
NASDAQ Composite Index (CCMP) – 6 Month Daily Chart / Percentage of Constituents above their 200 Day Moving Averages
Even though the NASDAQ peaked 9 months later in November, the number of companies trading above their 200 day moving averages fell to less than 45%, demonstrating severe deterioration. As fewer companies remain attractive to investors, the market falls from its own weight as sellers overtake buyers.
NASDAQ Composite Index (CCMP) – 6 Month Daily Chart / Percentage of Constituents above their 200 Day Moving Averages
Meanwhile, the S&P 500 Index consisting of the largest companies in the United States didn’t see the number of companies participating in the market advance began to deteriorate until early in 2022. In January 2022, the number of stocks above their 200-day moving averages in the S&P 500 was a relatively healthy 74%. By March 31st that number had shrunk to just 53% and on May 31st just 36% of stocks in the index were in an uptrend. Most recently on June 17th the index reached a low of just 12% of companies trading above their 200-day moving averages with most of these stocks in the energy sector, the only remaining bright spot so far in the bear market.
S&P 500 Index (SPX) – 6 Month Daily Chart / Percentage of Constituents above their 200 Day M.A.
Nobody can know when the selling in stocks will cease or when the bottom will be reached. However, following the action of the individual stocks that make up the broader indices can help pinpoint periods to become defensive or aggressive in positioning. In addition, the stocks that hold up best during the bear market are candidates to be the leaders of the new bull market. Many of the companies that will the lead the next advance are likely unknown by most investors today and have the potential to be the next household names.