6 Ways to Identify a Bear Market Rally

Bear market rallies are often deceptive signs of recovery.

For example, during the 2008 crisis, S&P 500 rallied by about 10% in several weeks, only to fall further by 20%.

Generally, bear market cycles last 22 months, with the median market drop being 39%.

All these statistics mean that bear market rallies should not be too much trusted, as investors may take them for signs of a turning point and start buying the market, only to lose shortly after when the market resumes its solid decline.

6 Ways to Identify a Bear Market Rally

Sudden Spike in Stock Prices

Sudden spikes in stock prices are considered as arbitrary and substantial increases and usually regarded as an initial sign of a bear market rally. Such movements should be closely monitored, as they might offer profitable trading opportunities.

For example, the S&P 500 is consistently decreasing, and over one month it loses 20% of its value. During one week, the index grows by 5% it can be considered a sudden spike. If it deviates significantly for the overall pattern of the previous movement, it is a much stronger indicator.

It is essential to apply technical indicators to analyze sudden spikes:

  • Relative Strength Index : An RSI, which jumps unexpectedly to more than 70, may point to the overbought market, and the current price increase might not be sustainable.

  • Moving Average Convergence Divergence : A bullish crossover, which occurs when MACD crossing its signal line from below, can validate the strength of the spike. However, it still should be treated with caution if it is a bear market rally.

    It is also necessary to apply quantitative data to confirm the spike:

  • Volume Analysis: On April 1, 2021 spike, the S&P 500 increased in 4.5% with a volume that was 30% greater than a 30-day average. High volume often suggests that investors are active buyers, meaning that the recovery or bear market rally should be anticipated.

  • Price Action: Probably, most of the gains are made during the first day or over one or two days of strong movements. In bear markets, prices tend to fall gradually and not suddenly, meaning that these gains are most likely to be attributed to the bear market play.

    It is also essential to consider the history. During the bear market of 2008, there were several sudden spikes. For instance, in October 2008, the Dow Jones Industrial Average increased by more than 11% over two days of trading. However, the market continued falling until March 2009.

be greedy when others are fearful, and fearful when others are greedy”, as advised by Warren Buffet. In other words, sudden spikes often lead to a rush of FOMO buyers that increase the overall inefficient loads.

High Trading Volumes

High trading volumes are crucial indicators that can shed significant light on the nature of a price movement, particularly in so-called bear market rallies.

For a solid example, I examined in great detail a hypothetical day of trading on the New York Stock Exchange .

There is a case of 5% unexpected rally after a -10% move down with trading volume of 900 million shares on this day while the average trading volume on the stock exchange for the last month could possibly have been 600 million shares. Therefore, the volume has grown by 50% on this day.

Now, let us check particular shares that constitute this volume. If it is down to a few big boards or large capitalization stocks, then there has likely been buying by institutions. If they are buying, the price movement will not merely be a bear market rally but the beginning of a new upward movement or a short-term rally because some large institutions tried to win money in the bear market games.

Let us use the On-Balance Volume to check the cumulative volume flow. If this day resulted in a spike in the OBV line, it is safe to assume that volume and buyers support the price. In case if OBV remained at the same level as the previous peak, the buying publication is relatively weak, and the price is likely to fall back again.

Another important indication is the Advance-Decline Volume Ratio. On the hypothetical day in the rally, if the Advances-Declines volume ratio is two to one, then the constant will likely be the force that keeps the surge going. For instance, with Buying Volumes of 700 million shares and bear volumes, which equal 200 million shares, the ratio is still in favor of bulls. It is a powerful day.

Short-Lived Gains

Short-lived gains are hallmarks of bear market rallies. They can provide a false hope of recovery only to disappear and add more to the downfall. To observe this, let us consider an example of the NASDAQ Composite.

Imagine that NASDAQ performed a 4% rally in one trading session after a prolonged downfall. Firstly, it could look like an utterly strong signal for reversal. However, one has to analyze how it behaved and traded the day after. Ideally, the aggregate index has to drop 3% or even more not to gain but to confirm the temporary nature of the initial spike.

Further insights can be drawn by analyzing trading patterns. For example, if the rally was traded on speculative news and not solid financial performance or economic input, it hardly counts for anything. However, we will count it by calculating the news impact score – the variable that rates any piece of news for how many events of such kind it had to cause on Oakano. A high score combined with a quick move up suggests that it is more volatility than a real rally. Basing gains on such news is always disastrous, as they will be short-lived.

It is also vital to check the market movement for the depth of breadth. Not many rallies are supported by the depth of positivity in different sectors. If only a few tech stocks led the raise but the rest of the market failed to confirm it, it is a strong buying rally that hardly may last long. If, for example, 20% of NASDAQ went up while the other 80% stayed flat or slightly fell, the gain was definitely not supported.

Finally, traders like to use resistance levels not on to figure how higher the price can go but how substantial a gain rally may be. If NASDAQ goes into a rally and fails to blast the key resistance level, the rally is highly suspected to be another short-lived gain period. The key resistance levels are traditionally set at previous highs or major Fibonacci retracement.

Investor Sentiment Shift

Investor sentiment can have a significant impact on the market, especially when bear market rallies are concerned. To understand and record those market swings, analyses mix sentiment indicators and real-time market events. For example, let us consider what happened following the Federal Reserve’s unexpected interest rate cut. Such event would almost certainly shift the investor sentiment.

For example, after the Federal Reserve’s unexpected rate cut in March 2020, the Bull-Bear spread could exhibit a change from -30% to +15% as the investors who were previously strongly bearish would now be bullish for the market. This sentiment shift is also reported by available sentiment analysis tools. The Fear & Greed Index, which shows Extreme Fear < 20 to Extreme Greed >80 with 40-60 being fearful or neutral, is another reflection of the market sentiment.

For example, if the index shifts from 20 to 60 within a week, this means a significant sentiment shift, which almost always preceds a bear market rally. Another instrument to record and track social media sentiment is natural language processing.

For example, the sentiment analysis could reveal that the number of positive tweets about the stock market has increased by 40% within 24 hours after the Federal Reserve announcement.

Finally, surveys are also an important reflection of the market sentiment. For instance, if a survey was conducted before the mentioned announcement and only 25% of investors believed that the market was going to have a positive effect, while a survey cnducted after the announcement showed that 55% of investors became bullish, it would be a good indication that the sentiment has shifted.

Market Technicals

Market technicals are by far the most important way to evaluate the legitimacy of a bear market rally. Traders rely on these metrics to determine potential points of reversal or confirm a trend’s continuance. Various tools including support and resistance levels, Fibonacci retracements, and moving averages offer quantifiable data that can inform the decision-making process.

The most pivotal aspect is the interplay between support and resistance levels. For example, if the S&P 500 approaches a known resistance of 3200 points during a rally, traders monitor its progress to see whether the index can break through this level. If it fails to do so on significant volume, it means that the rally is not strong enough to overturn the bear market. If the index even merely touches this resistance level and then retreats, it validates the 3200 point level as an important marker signaling the continuation of a bear market.

Furthermore, Fibonacci retracements are another useful tool. After a decline, analysts will draw Fibonacci lines from the high to the low point to spot potential points of a reversal. If a rally tops out near, for example, the 61.8% retracement level and then begins to drop, it means that the rally is not particularly strong and the bearish trend will continue.

Equally important is the use of moving averages. Common practice is to look at the 50-day and 200-day moving averages. If the price, during a rally, moves above the 50-day moving average while still remaining below the line of a longer moving average, the rally is temporary and the overall market is still bearish. This critical difference helps traders separate a temporary uptrend from a real market recovery.

Cross-confirmation of these moving averages is critical. A “death cross,” where the 50-day moving average falls from the 200-day MA, is a very bearish signal. Conversely, a “golden cross,” where the 50-day moves over the 200-day is a critical buy signal and predicts a potential long-term turnaround in the market . However, this is rare in bearish markets.

Comparison with Historical Data

Parallels with historical data help to understand the current market. When considering the possibility of the bear market rally, traders and analysts often look at the past market cycles to help to understand if a similar outcome is likely. Analyzing the tendencies of the previous bear markets would help investors understand the duration, and the way of recovery of the current one.

The first case is the bear market of 2008. Then the market had a few rallies, one of which saw S&P 500 climbing roughly 10% in a matter of weeks, only to plunge to lower lows subsequently. Comparing this to the latest rally, where the S&P 500 surged a modest 5% range in a similar timespan would demonstrate whether the current market performance is normal for bear markets, or if this is the onset of recovery for sure.

Comparisons in timeframe would also demonstrate the possible duration, and the process of recovery. According to statistics, bear markets tend to spend 22 months falling, with an average overall drop of 39% from the peak to This would allow one to implement these figures in comparison and find out the probability of reaching the bottom soon.

Comparisons of the latest stages would demonstrate whether or not the worst has already passed. Let us suppose that current market volume is significantly higher than volume levels experienced at the same stages of past bear markets, and model the ways of the market’s interaction.

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