These Go to Eleven
John P. Hussman, Ph.D.
The current market environment joins the full range of ingredients that have characterized the most extreme market peaks – and preceded the deepest market plunges – in more than a century of history.
On the basis of measures that are best correlated with actual subsequent market returns (and plenty of popular measures are not), we observe the richest market valuations in history with the exception of the 2000 peak.
Even then, current levels on the best performing measures are only about 15-20% below the 2000 extreme. Current valuations now exceed those observed in 1901, 1929, 1937, 1972, 1987, and 2007. The 5-year market advance from the 2009 low, encouraged by yield-seeking speculation, now places the S&P 500 at more than double the level that we would associate with historically normal returns.
Put another way, we presently estimate S&P 500 prospective nominal total returns of just 1.4% annually over the coming decade, with zero or negative average total returns out to roughly 2022.
These valuations are coupled with extremely overbought conditions and the most lopsided bullish sentiment since 1987. Bearish sentiment is now down to 14.8% (Investor’s Intelligence), close to the low of 13.3% reached in September. Prior to this year, the last two times sentiment was nearly as lopsided were the April 2011 peak (just before a near-20% dive), and the October 2007 peak.DYI Comment: Professor Hussman is in tune with our dividend yield model for estimating forward returns.
Estimated 10yr return on Stocks
Back to the Nineties
November 7, 2014
From the perspective of my macro Credit analytical framework, history’s greatest Credit Bubble advances almost methodically toward the worst-case scenario. After more than two decades, the Bubble has gone to the heart of contemporary “money” and perceived safe government debt. The Bubble has fully encompassed the world – economies as well as securities and asset markets. And we now have the world’s major central banks all trapped in desperate “nuclear-option” “money”-printing operations. Moreover, serious cracks at the “periphery” of the global Bubble now feed “terminal phase” Bubble excess at the “core.” Indeed, “hot money” finance exits faltering periphery markets to play Bubbling king dollar securities markets. Euphoria reigns. In many ways, the Bubble that gathered powerful momentum in the Nineties (with king dollar) has come full circle.
Greenspan states that “everybody knew there was a Bubble in 2008.” As someone that studied, chronicled and warned of the Bubble, I recall things quite differently. Will everybody have known it was a Bubble in 2014? And, actually, wasn’t it perfectly rational to participate in stocks, bonds and asset markets – even on a leveraged basis – during the Nineties and right up to 2008, with the Fed (and Washington policymaking) manipulating, intervening and backstopping finance and the securities markets?
Is it not similarly rational to speculate in stocks, bonds, corporate Credit and derivatives today? I would strongly argue that rational responses to government-induced market distortions are instrumental to major Bubbles.
Meanwhile, U.S. equities bulls just love (Back to the Nineties) king dollar. Scoffing at global crisis dynamics, those seeing the U.S. as the only place to invest are further emboldened.
And, no doubt about it, “hot money” flows could further inflate the U.S. Bubble.
Speculative flows (underpinned by Kuroda and Draghi) have surely helped counter the removal of Federal Reserve stimulus. Yet this only increases systemic vulnerability to de-risking/de-leveraging dynamics. At the end of the day, it’s difficult for me to look ahead to 2015 and see how the household, corporate and governmental sectors generate sufficient Credit growth to keep U.S. asset prices levitated and the Bubble economy adequately financed. Perhaps this helps explain why - with stocks at record highs, the economy expanding and unemployment down to 5.8% - 10-year Treasury yields closed Friday at a lowly 2.30%.
The U.S. Money Supply Decelerates in October, the Risk of an Economic Bust Just Went Up
The U.S. money supply as represented by TMS2 (True “Austrian” Money Supply), our broadest and preferred U.S. money supply aggregate, posted a year-over-year rate of growth of 7.7% in October, down from an 8.3% rate in September. Now down 880 basis points (53%) from the current boom-bust monetary inflation cycle high of 16.5% posted in November 2009, this is the lowest year-over-year rate of growth in TMS2 since the 6.9% rate seen in November 2008 (month 4 in this 75 month long and counting inflation cycle). As a result, although we are not yet ready to declare that the economy is staring at an imminent bust in the face, this decelerating trend in the rate of monetary inflation is bringing us ever so closer to one. To investors and speculators alike, we say time to be especially cautious.
Regression to Trend: A Perspective on Long-Term Market Performance
The regression trendline drawn through the data clarifies the secular pattern of variance from the trend — those multi-year periods when the market trades above and below trend. That regression slope, incidentally, represents an annualized growth rate of 1.75%.
The peak in 2000 marked an unprecedented 148% overshooting of the trend — nearly double the overshoot in 1929. The index had been above trend for two decades, with one exception: it dipped about 13% below trend briefly in March of 2009. But at the beginning of November 2014, it is 82% above trend, down from 88% above trend the month before.
In sharp contrast, the major troughs of the past saw declines in excess of 50% below the trend. If the current S&P 500 were sitting squarely on the regression, it would be around the 1062 level.
If the index should decline over the next few years to a level comparable to previous major bottoms, it would fall to the low 500 range.
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