Extremely Extended Bull Market
According to the RSI, the Dow was the most bullish since 1904 three days ago and it has been up since then! With records being topped, it’s interesting to see a comprehensive look at a bunch of indicators. The macro model below does just that as it shows the periods since 1987 which were overvalued and at the end of the cycle. As you can see, the average percentage the market has today is 91% which is higher than the 73% reading in 2007 and the 71% reading in 2000. I’m a bit suspect of an indicator which has the 2007 market riper for a correction than the 2000 market because the tech bubble brought valuations much higher. It seems like there was a false red flag in the 1990s as well. Let’s review each indicator to see if this model has any value.
The first is the yield curve. This indicator is important, but this model looks at it completely wrong. In 2007, the yield curve was coming out of an inversion which is a recession signal. Currently, the yield curve is flattening, but it hasn’t inverted yet. The problem is taking a specific time and using it as an indicator without contextualizing the move. Therefore, this percentage is way too high. With the yield curve at 57 basis points without inverting yet, it’s saying we’re 2-4 years away from a recession.
The second and third indicators are the unemployment rate and the jobless claims. As you can see, the jobless claims indicator is flashing the worst warning signal of the 3 points because it’s at the lowest amount since the 1970s. The unemployment rate signal is the worst since the 2000 indicator because the unemployment rate is the lowest since the 1990s. I disagree with these being timing indicators because they don’t measure the slack in the labor force accurately. Keep in mind, these metrics only become a problem when they start getting worse. Until then, they are not flashing warnings signs. The latest jobless claims report showed 233,000 claims which was in the range I previously mentioned they would be in (230,000 to 250,000). This was a 17,000 increase from last week and 7,000 below the estimate. Last report was artificially low because many states were estimated. This week only Maine was estimated. I think the volatility in the report is over because the weather is relatively normal and there aren’t any holidays on the horizon. The report still shows the labor market is strong, so recession fears must be pushed back a few quarters.
The fourth indicator is the high yield credit spread. This indicator is another example of how this model is flawed because it picks dates in time which don’t contextualize the movements. For example, the high yield spread didn’t signal the stock market was over extended in 2000 because it already bottomed in 1997. If you were watching the indicator in real time, you’d say it was predicting a recession. It bottomed relatively early in the cycle. It bottomed in May 2007 which was right before the recession which is why this indicator has the market overvalued. The point is the high yield spread isn’t always highly correlated with the stock market, but that doesn’t mean it doesn’t have value. Therefore, my criticism is more with how it affects the forecast for 2000 than now. The tight spreads are indicating we’re late in the cycle. When it loosens it will probably be the end of the cycle. However, was a false alarm in 2016 because of the energy sector.
The savings rate being low is a good indicator that we’re near a top, but it has been in a secular decline partially because of declining interest rates, so it might go lower in the next few months before the bull market tops even though this has it at a 98% reading. The savings rate as of November 2017 was 2.9%. It bottomed at 1.9% in July 2005. Given the increase in optimism in risk assets, I wouldn’t be surprised to see that the savings rate has fallen in the past 2 months. The interest rates on savings accounts haven’t budged since the Fed has raised rates, which means there isn’t an incentive to save. There is actually an incentive to not save because some workers know they will get a bonus because of the tax cut.
The next indicator is the total economy debt to GDP. This metric has been in a secular uptrend since the 1980s which is why it has a greater percentage in each subsequent cycle. Austrian economists believe the higher the debt, the bigger the recession. That theory has worked out so far as the 2008 recession was worse than the one in 2001. It’s a big claim to say the next recession will be worse than 2008. The government debt will certainly be an issue, but I’ll wait until I see the catalyst of the next recession before saying it will be worse than 2008.
The final indicator we’ll review in this post is the S&P 500’s percentage of the 200 day moving average. The theory is that stocks need to have a blow off top before entering a bear market. While that’s a viable metric of how much stocks have run recently, I think it undercuts how overblown this rally is. As you can see from the chart below, the weekly RSI is highest going back to 1969. This rally is so overblown my near term bearish call on equities having a short dip is now 2 weeks old and we haven’t had a slight blip in the rally.
Conclusion
I reviewed 7 of the indicators in this list to see if the market is at the end of the bull run. This chart shows with certainty that the market is about to fall, but my criticism of its use of points in time instead of contextualizing movements shows that it’s a good starting point for discussions not an indicator which should be relied upon. It’s entirely possible the bull market can end in the next few months. I’m clarifying the metrics in this table to dig deeper to find the meaning of them all.
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