What it means
In markets, a rally means prices are climbing steadily, often with rising trading volume. It might follow a fall in prices, in which case it is a recovery, or it might extend an existing uptrend.
People use the word for individual shares, for indices such as a broad stock market gauge, and for currencies, commodities and bonds. Rallies have many triggers.
Strong earnings, better-than-expected economic data, lower interest rates, policy announcements or relief that a feared event did not happen can all bring buyers back. Short sellers, who bet on falling prices, may also have to buy to close their positions, which adds fuel.
A bear market rally is a rise that occurs inside a longer downward trend. These rallies can be sharp and convincing, but they fade, and prices fall again.
Distinguishing a true recovery from a temporary bounce is one of the hardest tasks in investing, and no one gets it right every time. For companies, rallies affect the cost of raising money.
A rising share price can make it cheaper to issue new shares, and it increases the value of employee share plans. It also affects pension fund balances and the market value of investments held on the balance sheet.
Finance professionals should not chase a rally without a plan. Investors often buy near the top out of fear of missing out, and then sell in a panic when prices fall.
A better approach is to set rules in advance for when to buy, hold or trim, based on goals and risk tolerance. The size of a rally is normally described as a percentage gain from the starting low to the peak.
Analysts also compare it with the earlier decline to see how much of the loss has been recovered. These measures help put a rally in context.
In practice
Real-world examples.
Example
After weeks of falling prices, a central bank signals that interest rates will be reduced. Shares jump over several days, and the main index gains 6%. Fund managers describe it as a relief rally, and trading volumes are well above average.
Example
A gold producer's shares rally after a rise in the price of gold. The company's finance team sees its market value increase and its borrowing terms improve. The board considers using the higher price to raise capital, while the treasurer warns that gold prices can fall as quickly as they rise.
Example
An individual investor sees a technology stock rally 40% in a month and wants to buy. Her adviser reminds her to check the company's earnings and her own goals first. She invests a smaller amount in stages, and writes down her reasons so she can review them later.
Formula
Calculation
Rally gain % = (peak level - starting level) / starting level x 100
Suppose a stock index falls to 4,000 points and then rallies to 4,600 points.
Step 1: gain in points = 4,600 - 4,000 = 600.
Step 2: divide by the starting level = 600 / 4,000 = 0.15.
Step 3: convert to a percentage = 0.15 x 100 = 15%.
If the index had earlier fallen from 5,000 to 4,000, the rally has recovered 600 / 1,000 = 60% of the earlier loss.Case study
Seen in the real world.
Maple Ridge Fund is a fictional investment fund used for illustration. After a market fall, its index dropped from 5,000 to 4,000 points. Within three months, the index rallied to 4,600 points, a 15% gain, and recovered 60% of the earlier loss.
In this illustrative story, some managers at the fund wanted to buy aggressively, believing the worst was over. The chief investment officer pointed out that earnings had not yet improved, and that earlier bear market rallies had faded. The fund increased its holdings in stages, which limited the damage when the index slipped back 5% a month later.
By the end of the year, the index recovered further, but the fund's staged approach meant its average purchase price was lower than that of managers who had bought all at once. The chief investment officer used the episode in training to show why rules made in advance help in emotional markets. The team kept a written note of the reasons for each purchase.
Watch out
Common mistakes.
- Assuming every rally is the start of a lasting recovery. Some rallies fade quickly.
- Buying only because prices are rising. Check valuation, earnings and your own goals first.
- Ignoring risk after a big gain. Plan when to trim or rebalance.
Questions
People also ask.
What is a bear market rally?
It is a temporary rise in prices within a longer downward trend.
What causes a rally?
Good earnings, improving data, lower interest rates, policy news and short sellers closing positions can all trigger one.
How is a rally measured?
It is the percentage rise from the starting low to the peak, and it can be compared with the earlier decline to see how much was recovered.
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