The global bull market is eight years old and stocks are pricey, but the long rally won’t end any time soon.
That’s according to Citibank’s global bear market checklist, a composite of 18 fundamental and technical warning signs used to flag an imminent market downturn. At the market top in 2000, 17.5 of the 18 indicators were flashing red. At 2007’s peak, 13 of the 18 indicators were signalling danger. Today, however, just two of the 18 bear market indicators are present.
Trailing and forward price-earnings ratios indicate global stocks are pricier than usual. Consequently, stocks could be hit if there is a global slowdown or if earnings fail to match expectations. Still, stocks arguably deserve to trade on elevated valuation multiples, given that double-digit earnings growth is expected this year, compared to just 2 per cent in 2016. Additionally, other valuation metrics offer comfort to investors.
The checklist cannot forecast if a short-term correction is imminent, says Citi, but it does say what to do if a correction occurs. Right now, the almost total absence of warning signals “is telling us to buy the next dip”.
Trump and the Dow
The cause of the continued rally, if one is to believe Donald Trump, is none other than the president himself.
“Dow hit a new intraday all-time high!” he tweeted last week. “I wonder whether or not the Fake News Media will so report?”
Actually, the “fake news media” did report that US stocks are trading at all-time highs. Would it be unkind to report that the bull market began eight years ago, not last November, and that US indices have been hitting all-time highs since 2013?
Would Trump be bruised to hear this is a global rally, and that US stocks have underperformed most developed markets in 2017? Does he no longer believe stocks are in a “big, fat, ugly bubble”, as he did last September?
Given that 11 of the last 14 US presidents experienced bear markets, the chances are a significant decline will eventually occur during Trump’s tenure. Seeing as he is so quick to take the credit, will he also take the blame when things eventually sour?
Hardly. Expect to hear the Obama bubble burst, or that the “fake news media” talked down the economy, or some other nonsensical Trumpism.
Stress-free ride
The US rally may be unremarkable relative to the gains in Europe and other developed markets, but it has certainly been notable in other respects.
High returns are associated with high volatility, but 2017 has been a stress-free ride. Investors have had the best of both worlds – above-average returns with below-average volatility. The biggest pullback in the first half of the year was just 2.8 per cent – the second-smallest on record, and way below the average first-half decline (9 per cent), notes LPL Research. The S&P 500 closed up or down 1 per cent on only four occasions, the smallest number since 1972. It made 24 new highs, the most since the first half of 1998. Returns (8.2 per cent) were double historical norms.
Typically, above-average returns in the first half of the year are followed by more of the same in the second, says LPL. No doubt, Mr Trump will again claim the credit.
Fevered tech-land
The stock market may be quiet at the moment but things have been far less sleepy in the technology sector. Google parent Alphabet is on the verge of a double-digit correction while tech behemoths like Apple, Facebook and Amazon have all sold off over the last month.
Markets are betting the recent volatility will persist, with traders busy buying options to protect against further declines. The Nasdaq 100 Volatility Index (VXN) last week hit 18.7, up from 13 a month earlier. Contrast that to the Vix, Wall Street’s much-watched fear index; at 11, it remained near all-time lows.
The ratio of the two volatility indices, at 1.7, is near the highest levels seen since the global financial crisis. That divergence must surely contract at some stage. That can happen in one of two ways – volatility will either have to dry up in the tech sector, causing the VXN to drop, or else spread to the overall market, causing the Vix to rise.
For now, the former appears a more likely scenario. The tech-heavy Nasdaq had risen 21 per cent, more than twice as much as the S&P 500. Prior to the recent sell-off, the Nasdaq had not closed below its 50-day moving average since December, the longest streak in history.
A tech pullback was overdue, but the sector’s outlook remains strong, and enthusiasts will be hoping normal service is resumed sooner rather than later.
