The cyclical bull remains intact. However, with QE having ended, the Fed no longer has your
back. That spells higher risk, and it means you should now weigh a broader list of fundamentals
more heavily. True cyclical bear markets are preceded by rising short term interest rates and a credit
crunch that induces recession or worse. I will not get a sell signal on my cyclical model until short
rates start rising along with bond yields. Private sector credit creation is normally critical in
underwriting continued economic expansion and an extension of a bull market. Unfortunately,
credit demand is not normally a useful indicator for market timing as the private sector's loan
book can continue rising even after a downturn has begun. So, that is why you have to watch
a variety of factors.
I use a compilation of indicators to monitor slack in the system to include idle production
capacity and labor as well as the trend of short rates and measures of bank balance sheet liquidity.
When slack has evaporated, the economy is in overheat mode with accelerating inflation. That
is usually when the Fed begins to crunch the economy. When my index reaches a range of 180 -
185, the economy is overheating and it along with the stock market are vulnerable. The index
is now lingering in the low 170s and banking sector liquidity is ample. In this broad framework,
economic expansion and the bull market can wear on for a couple of more years.
Business Sales & Profits Growth Momentum
With QE having ended, the stock market can be expected to become more sensitive to the
momentum of business sales and profits. I use a variety of measures here, and they point to
an acceleration of business sales and profits growth starting from mid - 2013 and continuing
on currently. My Weekly Cyclical Fundamental Indicator is a forward looking measure and
that has weakened noticeably since early Aug. reflecting a pronounced downturn in
sensitive materials prices. I think stock market players have waved such price weakness off
on the premise that it reflects slower global economic growth and is not seen as a short
term concern. But it should not be sloughed off because slower global growth affects the
large US export sector, business pricing power, and can lead to negative translation penalties
which can accrue to profits should the dollar remain strong.
Often, S&P 500 net per share gets strong enough that it becomes very extended relative to
its long term trend. As fate would have it, this development occurs around market tops
because the Fed is usually in crunch mode. We are not there yet, but earnings could become
just so extended in late 2015 or early 2016. It will be interesting to see where the Fed is
by then with policy.
- Peter Richardson
- Retired chief investment officer and former NYSE firm partner with 50 plus years experience in field as analyst / economist, portfolio manager / trader, and CIO who has superb track record with multi $billion equities and fixed income portfolios. Advanced degrees, CFA. Having done much professional writing as a young guy, I now have a cryptic style. 40 years down on and around The Street confirms: CAVEAT EMPTOR IN SPADES !!!