Do you think that the bull market is over?
NO! This stock market rally started in March of 2009. It began from a level that represented massive fear and raw panic in the aftermath of the Lehman Failure. It was preceded by a severe traditional bear market from the 2007 peak to the pre-Lehman level. That bear market lost about 25% of its value. After the Lehman fiasco, the market lost another 25% in five weeks. The market then floundered and sold off from December 2008 to the March 2009 low. Why? Because the US central bank was tepid in its response to address global illiquidity. The Term Auction Facility (TAF) and the global swap lines took three months to achieve liquidity injection sufficient to unfreeze a nonfunctional financial system. The Fed has, hopefully, learned from that mistake. If the Fed is paying attention, they will not repeat it. Liquidity is no longer an issue. Stocks tend to rise over time when there is excess liquidity. That is the case today.
When will the bull market end?
No one knows and all indicators that predict a market top have their flaws. We use strategic levels to measure the risk. One of them is the ratio of total stock market capitalization to GDP. Jim Bianco computes it. So does Ned Davis. Their methodologies are slightly different. There are several other measures as well. They all tend to say the same thing: we have seen enough stock market recovery to begin to worry. However, we haven’t seen enough price rise in stocks to be fearful of anything other than a correction in an ongoing bull move in stock prices. Another 20% increase in that ratio would trigger selling on our part. We are closer than we were, but we are not there yet.
Are there any other strategic indicators?
Yes. There are many and one must examine all of them. We use the ratio of the profit share of GDP to the GDP. We believe that the higher the profit share, the more one can justify the value of stocks. Right now, the profit share is very high. We do not expect it to go much higher. The question is whether the present profit share can be sustained. If it can, then stocks may move substantially higher. If the profit share starts to erode as a percentage of GDP, then stock prices will come under pressure. This measure now requires close watching.
What about technical indicators like the Hindenburg Omen (HO), the Golden Cross, or the Death Cross?
Readers who wish to get details on these and many others like them can search for definitions. We dismissed the HO because of the way it is calculated. Art Cashin was very helpful in creating a perspective on this measure. HO may work but it did not do so during the last few months. We think it was a victim of Goodhart’s Law. Readers may google Charles Goodhart to learn what the G-Law is and how important it is. Ned Davis has done some superb research on Golden Crosses and Death Crosses. In sum, they have predictive value but the degree of value depends on whether the bull or bear market is secular or cyclical. From Ned’s data base we learn that, “Since 1929, S&P 500 Golden Cross signals that have occurred within secular bull markets have been profitable 76% of the time with a median gain of 19.9%.” That is a powerful statistic. However, Ned also notes, “During secular bear markets, Golden Cross signals have only been profitable 58% of the time with a median gain of 1.3%.” In sum, the use of the crosses depends on whether this is a cyclical bull within a secular bear or a true secular bull that started two years ago. Right now, we do not know the answer to this strategic question. It could be either one. Therefore we watch the crosses but do so with tempered enthusiasm and limited conviction.
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