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Stocks rallied significantly yesterday, leading many people to wonder if this is “the bottom” in equities. Given that none of the problems in the U.S. economy have been resolved, I think that this is a bear market rally.
With that in mind, it is interesting to look at how much equities could rebound in a bear market rally. The best analog for the economy today is the Great Depression. Therefore I’ve pulled up the chart of the S&P during the Great Depression. The index fell as much as 86.5 percent before it finally bottomed. The sell-off was not without relief rallies. Between 1929 and 1932, there was 6 “bear market rallies” that ranged from 12 to 110 percent. The S&P was trading at much lower levels then but on a percentage basis, bear market rallies usually extend 25 percent. With that in mind, since the S&P 500 bottomed out on Friday, the index is up close to 8 percent. A 25 percent move would put the index at 833.
How does this relate to currencies? Further gains in U.S. equities would mean further strength for the EUR/USD. So if the S&P 500 hit 833, the EUR/USD could break 1.30.
Click on the chart to enlarge