As of 24 February 2017, the Dow Jones Index has hit 20,821, another record high in a month of record highs.
Pundits are calling this the ‘Trump rally’, driven by expectation of increased infrastructure spending and tax reform. A recent CBS news poll also found that 61% of Americans think the economy is ‘in good shape’, the highest since before the Great Recession.
This shouldn’t be surprising; we reported last time that the most recent Gallup poll on the US Economic Confidence Index is also the highest it has ever been. We then highlighted the ominous downside; namely that the signs of the next recession are already falling into place. Although if you believe our Commander-in-Chief, this winning streak (all caused by him, of course) can only continue.
And many people, including those who should perhaps know better, do indeed believe him. Take a look at the NAAIM Exposure Index. NAAIM is the National Association of Active Investment Managers and the index measures what percentage of their portfolios is in stocks.
Over 95% of active investment managers’ portfolios are in stocks! This means of course that the big fishes – institutional investors are heavily weighted toward stocks. This must be a good thing right? Not really. Too many bulls usually mean one thing; it’s a bubble and all bubbles eventually burst.
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Recall that we mentioned that this stock market rally is driven by expectation. Do you know what’s another word for ‘expectation’? That’s right; it’s speculation. Consider that no infrastructure or tax bill has passed yet despite all the bluster.
So what does that leave us with?
What do the corporate earnings figures actually say? Well, nothing very optimistic, to say the least. Let’s look at the Shiller Ratio, which is the cyclically-adjusted Price/Earnings ratio of the stock market, developed by Nobel Prize winning economist Robert Shiller. The ratio currently stands at 29; and has only been higher at two other points in economic history – the 1929 ahead of the Wall Street crash (ratio of about 30) and before the dotcom bubble bust of the late 90s (ratio of about 45).
Source: Money Morning
Doesn’t exactly fill you with confidence, does it?
Consider also that the S&P 500 is trading at about 9% higher than its 200-day average, which is often a sign that a major correction is ahead. Volatility is low too; way too low, in fact. The VIX, an index which measures stock market volatility has been declining.
This means that there is upward pressure on the VIX i.e. higher stock market volatility. And with the stock market being as overbought as it is, the volatility will most likely only go in one direction – down.
Source: Market Watch
Listen, it’s not just fringe finance blogs that are getting jittery about the stock market. Everybody, or almost everybody is concerned, and rightfully so. Here’s what Scott Clemons of Brown Brothers Harriman, the oldest private bank in the United States, has to say.
The market is looking for reasons to go higher, and the administration has provided it. Right now, a lot of that is projection, hopes and intentions, which — when it collides with the reality of having to deal with Congress, even held by the president’s own party — that leads to disappointment down the road.
Unfortunately, markets are driven as much by herd behavior as by fundamental factors. And while this is what makes the game all so exciting, it also makes it perilous. Intelligent investors understand this, and hedge their bets accordingly with hard value commodity assets such as gold and silver.
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