A Bear Market Rally
Why do I believe July brought us a bear market rally and not the beginning of a new bull market? Because the Fed is pulling too much money out of the system via quantitative tightening to reinflate a stock bubble, rates are now high enough that there is an alternative, and corporate earnings are too lousy to push stocks up on their own. Bear market rallies such as the current one of 14% (from trough to peak) are not at all unusual; in fact, there was a 23% bounce in 2008 and a 21% bounce in 2000.
Despite bearish short-term investor sentiment polls being cited as contrary indicators to support bullishness, investors are still very overallocated to stocks vs. historical norms and nowhere near as under-allocated as they were at the 2009 market bottom:
And regarding sentiment, we can see from Ed Yardeni that in the Investors Intelligence poll the highest the “bear percentage” got (so far) in the current market was only around 45% (it’s currently just 33%), yet there were multiple times during the 1980s, 1990s and 2008 that it climbed much higher:Also, we can see from this old academic paper that during the grinding bear market of 1973 to 1975, when the S&P 500’s GAAP PE multiple dropped from 18x to 8x (it’s currently over 20x!), the bears in the Investors Intelligence poll climbed to around 75% and went over 80% during the bear markets of the 1960s. So if you think that based on this bear market’s sentiment we’ve “seen the bottom,” I wish you luck!
Additionally, we can see from CurrentMarketValuation.com that the U.S. stock market’s valuation as a percentage of GDP (the so-called “Buffett Indicator”) is still astoundingly high, and thus valuations have a long way to go before reaching “normalcy” (which the market will almost certainly overshoot to the downside):
And finally, the last time the 10-year Treasury yield was where it is now (a bit over 2.6%) was March 2019 when the S&P 500 was around 2800 (over 30% lower than it is today), yet inflation was vastly lower (allowing much higher PE multiples) and growth prospects were far better. And although corporate earnings are higher now than they were then, they’re at best “sluggish” relative to expectations and, as previously noted, inflation will substantially lower the PE multiples placed on them. (Perhaps a move to 14x from the current over 20x might be appropriate, although markets typically overshoot to the downside.) When stocks get meaningfully cheaper I’ll get longer, but until then the fund’s bias is towards caution!
Meanwhile, even last year when short-term rates were set at just 0.125% and average rates were around 1.5%, the gross interest on the $30 trillion of federal debt cost $573 billion, and that cost is now on a path to nearly double. Does anyone seriously think this Fed has the stomach to face the political firestorm of Congress having to slash Medicare, the defense budget, etc. in order to pay the even higher interest cost that would be created by upping those rates to a level commensurate with even 4% or 5% inflation (not to mention today’s over 9%)? Powell doesn’t have the guts for that, nor does anyone else in Washington; thus, this Fed will likely be behind the inflation curve for at least a decade. And that’s why we remain long gold (via SPDR® Gold Shares (NYSE:GLD)).