A quick summary
- The dip-buyers are now just 2.9% away from making a new market high.
- The earnings recession continues but forward estimates look rosy.
- Inflation is ticking higher from a very low base.
- Big Tech has lost some of its mojo.
- A Covid vaccine is getting closer but is not yet in sight.
The S&P 500 was up 3.8% last week.
It was a strong week, up 4 out of 5 days. The only downer was Tuesday, when Trump said he was ending congressional talks regarding a second round of stimulus payments until after the election. That didn't play well, so he reversed course on Wednesday and the market rallied.
What caught my eye on the above chart, by Jill Mislinski from AdvisorPerspectives, were the three consecutive gap openings after Tuesday's selloff. Gap openings are not uncommon but three in a row are. It's a sign of bullish enthusiasm.
This is the most over-stretched market in history.
If you believe, as I do, that mean reversion (regression to trend) is a natural law of the market - as gravity is to physics - this chart should concern you. (It also comes from Jill Mislinski.)
The S&P 500 is now trading 132% above its long-term trend. That's higher than it was at the height of the 2000 Tech Bubble, and higher than the 1929 peak when cabbies and shoe-shine boys were giving stock tips to their customers.
The Sector Returns
Sorted by YTD returns, this table gives a snapshot of where the money is being invested. Technology is the dominant sector at every time frame (with the exception of 1-Month), and Energy comes in dead last.
Earnings & Earnings Estimates
The chart below shows the S&P 500 (blue line, left scale) superimposed on the quarterly per-share earnings of the S&P 500 (gold bars, right scale). The last five bars are earnings estimates going forward.
The market is forward-looking and it seems to be counting on those rosy earnings estimates to hold. I'm not so sure. Wall Street analysts are usually too optimistic with their estimates and downward revisions are common as we get closer to the current earnings season.
What I see in this chart is the potential for market corrections as analysts begin to rein in expectations.
Final Thoughts
I think it's likely that Tech will continue to lead the market higher, but the gap in performance will continue to shrink as investors look for value in an overvalued market. The bullish case for the market is based on a few things happening:
- Continued Fed liquidity injections, which are likely.
- Continued reopening of businesses, which will depend on the Covid curve.
- Continued gains in employment, which will also depend on the Covid curve.
- Continued improvement in GDP growth, which depends on all of the above.
- A trough in earnings by Q4 2020 and a return to record earnings by Q4 2021.
There are risks for each of these assumptions and that's why I think we are likely to have corrections along the road to 2021.