Apologies. I deleted this April 16th post by accident.
The S&P 500 fell 220 basis points (2.2%) on Monday, blamed variously on disappointing growth figures from China, the fall in gold, and the Boston Marathon tragedy. I still suspect that the primary cause is the tectonic shift last week by the Bank of Japan.
“Where is the fall?” you may ask, when viewing the chart below. That is what I enjoy about monthly charts: they place daily moves in perspective. Breach of support at 1540 would indicate a small secondary correction, while breakout below 1490 would signal a correction back to the primary trendline. But the primary trend remains up. Only a fall through 1350 would suggest a reversal.
Overall, Wall Street’s strategists are bullish on stocks for 2013 for various reasons.
One reason worth taking a second look at is expanding corporate profit margins, which are already at historic highs.
A slew of experts like GMO’s Jeremy Grantham, SocGen’s Albert Edwards, LPL Financial’s Jeff Kleintop, and John Hussman think these margins are unsustainable.
But the equity analysts and the companies they cover disagree……..
That is the medium-term outlook, but one has to question whether low effective tax rates and low interest rates are sustainable in the long-term. A weaker dollar has also boosted the conversion of offshore earnings but that is a one-off gain unless the dollar continues to weaken.
Sam Ro of Business Insider reports on Nomura strategist Bob Janjuah’s August 21 note:
“I now think the correct thing to do – as I also said in April and June – is to prepare for a serious risk-off phase between August and November,” [Janjuah] reiterated. “Over the August to November period I am looking for the S&P500 to trade off down from around 1400…by 20% to 25%…to trade at or below the lows of 2011.”
He argues that the key drivers of this sell-off will be disappointment at next week’s Federal Reserve Jackson Hole speech and realization that the ECB won’t be be able to deliver on their promises.
KATE LINEBAUGH: In the third quarter, earnings by companies in the S&P 500 are expected to shrink for the first time since just after the recession ended, according to Thomson Reuters, which surveys Wall Street analysts…..declining by about 0.4% from the year-earlier quarter…..That follows what will likely have been three straight quarters of decelerating profit growth.
Historically the S&P 500 was considered overbought — and ripe for a bear market — when the dividend yield dropped below 3 percent. A surge in share buybacks in the past two decades, however, disrupted this relationship, with the dividend yield falling close to 1.0 percent in the Dotcom era.
What happens when we adjust for share buybacks?
In 2011, S&P 500 share buybacks increased to $409.0 billion. With dividends of $298 billion*, that gives a total cash distribution (dividends and buybacks) of $707 billion for a yield of 5.44 percent. Right in the middle of the 5.0 to 6.0 percent range previously considered typical of an oversold market.
* S&P 500 market capitalization of $12,993 billion at June 29, 2012 multiplied by 2.29 percent
Unfortunately share buybacks fluctuate wildly with the state of the market:
If we omit the highest and lowest readings, and take the average share buyback over the remaining 3 years, it amounts to $349 billion. That would give adjusted total cash distributions of $614 billion and an adjusted yield of 4.98 percent — still close to the oversold range.
Compare to Earnings Yield
The current reported earnings yield of 6.8 percent, however, is way below the highs (10 to 14 percent) of the 1970s and 80s. Current distributions (dividends plus buybacks) amount to 80 percent of current earnings. Payout ratios above 60 percent are considered unsustainable.
My conclusion is that earnings yield offers a more accurate measure of value. And reflects a market that is fairly valued — rather than overbought or oversold — especially when we consider the likelihood of earnings disappointments.
Monday’s engulfing candle [R] on the S&P 500 warns of reversal to re-test support at 1270. Respect of the zero line (from below) by 21-day Twiggs Money Flow would indicate strong medium-term selling pressure. Failure of support would offer a target of 1200*.
The similarity between the current weekly chart and 2008 continues.
The index is now retracing to test support at 1220, in a similar fashion to support at 1380 in 2008. Failure of support would be a strong bear signal, but confirmation would only come if primary support at 1100 is broken.
Long-term government bonds have gained 11.5 percent a year on average over the past three decades, beating the 10.8 percent increase in the S&P 500, said Jim Bianco, president of Bianco Research in Chicago.
The combination of a core U.S. inflation rate that has averaged 1.5 percent this year, the Federal Reserve’s decision to keep its target interest rate for overnight loans between banks near zero through 2013, slower economic growth and the highest savings rate since the global credit crisis have made bonds the best assets to own this year.
Does this mean we should all rush out and buy 10-year Treasury Notes yielding less than 2.20 percent? I think not. The potential for further capital gains from lower yields is far outweighed by the risk of capital losses from future rate rises. And there are plenty of low-to-medium risk alternatives that will perform better than 2.20 percent.
Several weeks ago, when asked what it would take to reverse the bear market, I replied that it would take 3 strong blue candles on the weekly chart followed by a correction — of at least two red candles — that respects the earlier low. We have had three strong blue candles. Now for the correction.
On the S&P 500 expect retracement to test support at 1200 or 1250. Respect of 1250 would signal a strong up-trend, while failure of support at 1200 would warn of another test of primary support at 1100. A trough on 13-week Twiggs Money Flow that respects the zero line would also indicate strong buying pressure.
Dow Jones Industrial Average weekly chart displays a similar picture. Expect retracement to test support at 11500. A peak on 63-day Twiggs Momentum that respects the zero line would be bearish — warning of continuation of the primary down-trend.
The Nasdaq 100 is testing resistance at 2400 — close to the 2011 high. Breakout would signal a primary advance to 2800*, while respect would warn of another test of primary support at 2000. Bullish divergence on 13-week Twiggs Money Flow has warned of a reversal for several weeks.
The S&P 500 pulled back from resistance at 1250 and is headed for a test of short-term support at 1200. Failure would test primary support at 1100, while breakout above 1250 would signal an advance to 1400*. Rising 21-day Twiggs Money Flow continues to indicate secondary buying pressure.
Dow Jones Europe index also ran into resistance at 250, bearish divergence on 21-day Twiggs Money Flow warning of short-term selling pressure. Reversal below 230 would test primary support at 205/210, while breakout above 250 would signal an advance to 290*.