Stocks Have Risen 11 Of The Past 14 Days

Yet Another Rally: Euphoria Is Here

The stock market increased again on Monday which isn’t a surprise given how much momentum stocks have and the calendar effect. S&P 500 is now up in 11 of the past 14 trading sessions. It's expected continue.

According to FactSet, as of December 20th, the S&P 500’s forward PE multiple was 18. That’s not extremely high. But if you think stocks will increase significantly in the intermediate term, you are predicting it will get very high. That’s why it’s common to see extreme statements made by the bears. Such as that the S&P 500 can get to a 23 PE multiple or that valuations don’t matter.

The stock market can get to a higher multiple, but I don’t see why that would happen. Normally, stocks don’t randomly trade at high multiples. Actually, stocks rallied this year because the expected recession never happened.

And because growth is expected to improve next year. A speculative bubble in the 1990s was based in reality. Namely, the internet did take over the world; it just took longer than late 1990s investors expected. Therefore, without a catalyst, I don’t see stocks trading at such a high PE.

This is the part of the acceleration where earnings growth powers returns, not multiples. If you think stocks will rally 10% in 2020, you must think earnings growth will at least be in the high single digits.

Secondly, valuations matter. Shiller PE ratio might not be important for intermediate term returns. But many still follow other valuation metrics such as the forward PE multiple closely.

Only after amazing runs such as the year to date gain of 28.61% in the S&P 500 do investors seriously claim valuations don’t matter. If valuations told you to sell 12 months ago, you’re looking at the wrong numbers. Forward PE ratio correctly told you to buy stocks.

Specifics Of The Euphoria

As of December 20th, the 14 day RSI was at 73.41. It fell slightly even though stocks were up on Friday. I’m not sure if the slight rally on Monday caused the RSI to rise or fall. Either way, being above 70 is a sell signal.

CNN fear and greed index increased 1 point to 92 which is extreme greed. That’s the highest level since the fall of 2017. Exactly 1 year ago, the index was at 3 which is extreme fear. December 2019 is literally the exact opposite of December 2018. Therefore, I’m very bearish on stocks for the next 1 to 3 months. And, I think the S&P 500 will only increase 3% to 5% in 2020.

As you can see from the table below, the average target on Wall Street calls for a 3.3% gain in the S&P 500 in 2020. Wall Street was correct to be very optimistic on 2019. Also, Wall Street is the most bearish since 2005 when it predicted a 2.8% gain.

Stocks increased 3% that year. Wall Street was also correct to be pessimistic on 2000. On the other hand, forecasters completely missed 2008 as they saw an 11.1% gain, but stocks fell 38.5%.

Details On Monday’s Action

S&P 500 increased 9 basis points. This wouldn’t be a big deal if the stock market wasn’t on such an incredible run. Nasdaq was up 0.23% and the Russell 2000 was up 0.13%. Small cap index keeps inching close to a new record.

VIX was up 0.1 to 12.61. It appears the VIX can’t go much lower even if stocks increase almost every day. Many investors are likely anticipating a correction soon. Obviously, with all the optimism, these traders are in the minority.

Best sectors on Monday were energy and the industrials which rallied 1.06% and 0.63%. Worst were the utilities and real estate which fell 0.99% and 0.54%. 10 year yield fell 1 basis point to 1.92% as it still struggled to get to 2%. I see it getting there next year.

2 year yield stayed at 1.65%. Odds of a rate cut in 2020 are only 44.5%. That’s quite low compared to where it was a few weeks ago.

GDP Estimates Updated

For the past few weeks many have been consistently calling for Q4 GDP growth that’s above estimates. We're no longer more optimistic than almost all estimates as many have increased. Median estimate is 1.9%.

As you can see from the chart below, the Atlanta Fed GDP Nowcast now sees 2.3% growth. That’s above its last estimate for 2.1% growth. Because of durable goods orders and new home sales, the Nowcast updated its estimate of real gross private domestic investment growth to -0.1% from -0.9%.

On Friday, the NY Fed Nowcast exploded to show 1.32% growth instead of 0.69%. Now many are no longer in disagreement with this Nowcast and are more optimistic. Personally, I see growth coming in above 2% if PCE growth improves a lot like I expect.

If it doesn’t, we will probably see growth in the high 1% range. NY Fed’s estimate spiked because of the industrial production and housing starts reports. Industrial production report wasn’t even that great But when you are predicting 0.69% growth, your projections are very low.

Even ok numbers can cause a pessimistic Nowcast to be revised higher. Estimates for Q1 GDP growth rose from 0.82% to 1.64%. It wouldn’t be a disaster if growth came in near there. It would have been a disaster if growth was below 1%. Keep in mind, no data from Q1 is out yet, but it’s still nice to see the pessimism lifting away.

Finally, the St. Louis Fed GDP Nowcast sees 2.14% growth. It’s not as crazily optimistic as it usually is. Yearly growth in the ECRI weekly leading index stayed at 2.2%. But the index increased 1.3 points. This was a solid update. Comps are going to start to get tougher after they bottom in early January. 

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1 Comment

  • Andrew Lim

    December 24, 2019

    When are we going down!? My XLF