The delightfully impish Doug Kass ("The Anti-Cramer") looks at the parallels between the 1994 tightening period and the present.

There are bullish implications for using the 1994 Fed tightening
template: 1995 – 2000 was (if memory serves) quite a run.

Not surprisingly, Kass finds the comparisons wanting:

  • In 1994, unlike 2005, there was a sharp correction in stocks. While
    the Dow Jones Industrial Average dropped by only 10% in 1994, many stocks fared
    far worse. In 2005, equities advanced.
  • In 1994 Edson Gould’s ‘three steps and a stumble’ rule was validated as the
    Fed tightened. In 2005, Gould’s fabled market dictum failed to mark an equity
    decline, (because the tightening began from historically low levels).

  • 1994′s stock market decline was characterized by declining breadth — far
    different than 2005′s breadth picture.

  • In 1994, the stock market ended the year in a large oversold condition. 2005
    appears to be ending with an overbought condition (and unlike 1994, in 2005
    certain leadership sectors are particularly extended).

  • Most sentiment measures ended 1994 (that preceded the 1995 market recovery)
    in deeply negative territory. For example, the put-call ratio (CBOE 10-day)
    ended 1994 at its highest level of the year. By contrast, the put-call ratio is
    ending 2005 at its lowest level of the year.
  • The Investors Intelligence survey
    of bears ranged between 50% and 60% throughout 1994, the highest level since
    1982. The Investors Intelligence survey of bears in 2005 has been in the 20% to
    30% range, and in December, stands at near the year low of 22%. It is the survey
    of bulls that stands at 60% now. Markets typically make bottoms and are
    preparing to rise when they are oversold, investors are bearish and expectations
    low. These conditions existed in 1994, not in 2005.

  • 1995 was a good year for stocks, but it was an atypical period historically.
    Even taking into account that year’s rally, history shows less inspiring
    performance.
  • According to Ned Davis Research, there have been 16 separate
    tightenings over the last 100 years (defined as at least two consecutive rate
    increases). Surprisingly, the DJIA, on average, has declined by 4.90% in the
    four-month period following the last tightening date, by 3.90% in the eight-month period following the last
    tightening date.

  • Today’s condition of deteriorating breadth, from record high levels, and
    breadth divergence (while highs in the indices are being made) stand in marked
    contrast to conditions in late 1994.
  • Surprsie! Color Kass bearish.

    >

    UPDATE: December 23, 2005 6:05 am

    Nate provides some additional differences:   

    1. Marginal income tax rate increased around 1994 to 39% and stayed at 39% for much of the 1990s (vs. around 35% in 2004). This arguably gave the govt the ability to pay down debt and have low interest rates and inflation during the 1990s economic growth. Low interest rates may be good for stocks. The 1990s economy was strong enough to withstand higher income tax rates, and increases in income tax rates were accompanied by capital gains tax reduction.

    2. Capital Gains Tax Rate: didn’t the capital gains tax rate get cut to 20% in the early to mid 1990s? What year did this occur? I know many think taxes do not or should not influence the stock market, yet this tax reduction on capital gains coupled with a tax increase on the highest marginal incomes in the 1990s made stock returns look more attractive to high-income people in the 1990s. This may have influenced people to invest.

    In year 2004, there has been no big improvement in the differential between cap gains and marginal income. A dividend tax cut encourages companies to pump cash out of the corporation, which may be good for management discipline but may not pump up the stock price. The overall impact on capital allocation and impact is unclear and subject to additional debate and research.

    3. Killer New Applications and Growth Drivers – the 1990s had the internet driving change and growth (ebay, Amazon) and supporting industries (Dell). The internet was a very big idea whose time had come. A 2000s equivalent to the 1990s internet may not exist. Apple and Apple’s iPod are booming. Others are restructuring.

    >

    Source:
    The Anti-Cramer, Part
    Deux

    12/19/2005 7:48 AM EST
    http://www.thestreet.com/i/dps/te/20051219/theedge1.html

    Category: Psychology

    Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

    8 Responses to “1994 Parallel?”

    1. Anonymous says:

      Barry, I’m a huge fan of your bubble crash analysis document, I regard it as an encyclopedia of the warning signs to look for when things are starting to overheat. How’s SMI looking today, and what does it foretell us about the coming year? I’ve heard you mention other indicators in making your bearish arguments for 2006, but not the SMI.

    2. PC says:

      If markets can be predicted via history, then you should find historians in the Forbes 400. Consider this – at any moment, market action is made up of unique buyers and sellers trading stocks at a certain price point thus moving markets. For markets to repeat past patterns, you will need to have the same buyers and sellers acting in the same way as in the past and this is impossible.

      Trading coach Mark Douglas once said “each moment in the market is unique” and I fully agree with him. During the Japanese bear market, I have seen charts by technicians comparing the Nikkei to the Dow from 1929-1932. What happened to all these comparative charts? Did they foresee the huge breakout of the Nikkei this year?

      So 2006 will be unique from 1994 or 1995 and no one knows how it will unfold. The best way to prepare is to let the market tips its hands via price action.

    3. nate says:

      I can contribute more differences between 2004 and 1994. Please note I am not saying I agree or disagree with these differences. However, you might consider them.

      1. The marginal income tax rate increased around 1994 to 39% and stayed at 39% for much of the 1990s (vs. around 35% in 2004). This arguably gave the govt the ability to pay down debt and have low interest rates and inflation during the 1990s economic growth. Low interest rates may be good for stocks. The 1990s economy was strong enough to withstand higher income tax rates, and increases in income tax rates were accompanies by capital gains tax reduction.

      2. Capital Gains Tax Rate: didn’t the capital gains tax rate get cut to 20% in the early to mid 1990s? What year did this occur? I know many think taxes do not or should not influence the stock market, yet this tax reduction on capital gains coupled with a tax increase on the highest marginal incomes in the 1990s made stock returns look more attractive to high-income people in the 1990s. This may have influenced people to invest. In year 2004, there has been no big improvement in the differential between cap gains and marginal income. A dividend tax cut encourages companies to pump cash out of the corporation, which may be good for management discipline but may not pump up the stock price. The impact on capital allocation and impact is unclear and subject to additional debate and research.

      3. Killer New Applications and Growth Drivers – the 1990s had the internet driving change and growth (ebay, Amazon) and supporting industries (Dell). The internet was a very big idea whose time had come. A 2000s equivalent to the 1990s internet may not exist. Apple and Apple’s iPod are booming. Others are restructuring.

    4. Lord says:

      Isn’t the comparison 1994 and 2006?

    5. B says:

      This market may be different but human behavior is repeatable and never changes. Hence markets always respond similarly. Fear and greed. It’s hard wired into our lesser developed amygdala. You know, the Cro-Magnon part of us that makes you eat too much because your next meal may be weeks away, quickly forget about the past and think the new situation will last forever, lust after something you don’t have and jump in just as the party is over. That thing that helped you survive thousands of years ago but curses your investment returns.

      “Those who do not learn from the past are doomed to repeat it.” – Santayana

    6. angryinch says:

      The 1994=2006 meme makes far more sense, if anything does.

      1994 was a 4-year cycle year (like 66, 70, 74, 82, 90, 98, 02). Since 1962, each 4th year (save 1986) has seen at least a 10% SPX and more commonly a 20% correx. This is even more strongly felt every 8th year (66, 74, 82, 90, 98).

      This may be voodoo, but the pattern is unmistakeable. 2006 is both a 4th and an 8th year in this series (mid-term elections.)

      If this phenomenon holds, it doesn’t mean 2006 will be negative. In fact, like 1990 and 1998, we could see a rally continuation deep into the year (Mar-Jul). But at some point, it wouldn’t be surprising to see a fast and severe decline come out of nowhere.

      The good news is that, since 1950, every mid-term-year low has been an outstanding buy point. According to chartoftheday.com, the avg SPX gain from the mid-term year low to the following prez election has been 80%+. The median gain has been a healthy 55%.

      Given this, it appears that 2006 may be quite volatile and that it will pay to wait for your pitch.

    7. End of Rate Hikes a Catalyst?

      Will the market rally when the Fed has finished the tightening cycle? Is 1994 a good parallel? The Ed Keon interview on CNBC explains it. Look at this summary of the standard story from Doug Kass via Barry Ritholtz, then

    8. End of Rate Hikes a Catalyst?

      Will the market rally when the Fed has finished the tightening cycle? Is 1994 a good parallel? The Ed Keon interview on CNBC explains it. Look at this summary of the standard story from Doug Kass via Barry Ritholtz, then