By Chelsea Emery

NEW YORK (Reuters) - Wall Street isn't out of the woods yet.

 

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A surge in benchmark stock gauges on Wednesday, the largest in nearly 15 years, had many hoping the bottom was reached after three weeks of deep declines .

But long-term market watchers say the jump is only a classic bear-market move when gains, even impressive ones, are short lived.

Investors have been dumping stocks wholesale, largely because of the fear of more corporate scandals and broken companies. The arrest of five former executives at bankrupt cable operator Adelphia Communications Corp. on Wednesday had contributed to the Dow's second-largest point gain in history.

"We're not there yet," said Charles Pradilla, chief investment strategist with S.G. Cowen Securities who has provided investment advice for 32 years. "You don't end a bear market just because they lead a 77-year-old guy away in cuffs."

Pradilla referred to the arrest of Adelphia's former chairman and chief executive, John Rigas, accused by authorities of "looting" Adelphia.

The blue-chip Dow Jones industrial average had dropped 23 percent this year before Wednesday's huge gain of more than 6 percent, or 489 points.

But investors with years of experience said basic fundamentals are not in place to support longer rallies.

"There are a lot of doubts about how strong the recovery will be and how well companies can produce earnings," said Kevin Logan, a senior market economist for Dresdner Kleinwort Wasserstein, who has 18 years of experience in finance. "Could we see the market rally for a few days? Sure, because shorts are covering their positions, but we won't see sustained buying interest until the economic picture clears up."

Many hedge funds sell stocks short, meaning they borrow stocks in a bet they'll be able to replace those borrowed shares later at a lower price.

UP A TREE?

History has seen rallies like these in the midst of a bear market before.

There were 11 days between Black Tuesday in October 1929 and the bottom in July 1932 that exceeded Wednesday's percentage gain in the Dow average, according to market research firm MarketHistory.com. But none of the rallies held. The Dow average plunged 85 percent over that time span.

"Large, one-day gains are commonplace in a bear-market run," said Gibbons Burke, a market analyst for MarketHistory.com. "One should be careful not to get sucked into believing the bear has gone scampering up a tree after one of these moves."

Sometimes, the gains last longer than a single trading session.

Between August and September of 1973, the Dow average rallied 14 percent before it gave it all up and fell another 50 percent or so, according to Pradilla.

"It looked like the real thing, but we were in the middle of the worst bear market since the Great Depression," he said.

FINDING A BOTTOM

Of course, bottoms are eventually put in place, and some say this is as good a time as any to start buying.

"Conditions are ripe for the end of the bear market and the start of the bull market," said Hugh Johnson, chief investment officer at money management firm First Albany Corp. "There's enough liquidity to drive the market and the economy, leading economic indicators are pointing up and the stock market is very undervalued, given some assumptions."

But Johnson, a financial adviser since 1966, said there is one thing that keeps him from being fully convinced the bull is here to stay.

Investors have not yet capitulated, he said. Capitulation in stock markets is marked by a flurry of selling that wipes out previous excesses. Signs of capitulation include panic selling of billions of shares, a sharp drop of 5 percent or more in stock market indexes and a high reading of Wall Street's "fear gauge," which measures how jittery stock investors are.

The gauge is the market volatility index <.VIX>, also referred to as Wall Street's "fear gauge." The VIX measures the implied volatility of the U.S. equity market, or how much up or down investors expect the market to go.

The VIX closed up at about 50 on Tuesday, the first time since the immediate aftermath of the 1987 stock market crash and the Sept. 11 attacks on the United States. The recent rise has paced a stock market decline.

The VIX gain and stock declines were marked by heavy volume, but traders said they needed to see still heavier trading, sharper declines and more panic on the trading floor before a capitulation bottom is called.

"There's a compelling case for the end of the bear market, but the missing piece is capitulation," said Johnson, who has not raised his allocation to stocks yet. "One day (of gains) does not make a trend."