No Geopolitics. Focus on Charts & Fundies

Charts: The S&P 500 is up a scorching 58% from its March low. The 200-day moving average (the primary long term indicator telling us whether or not we are in a bull market) is 20% below the index, a historically huge gap screaming that we are in a long term bull market. The last time it was this far under the index was 1983 and that bull market lasted 25 more years. From March to late August value stocks beat or paced growth stocks. Value always beats growth in the early stages of a bull, mainly due to explosives gains from short covering but also because value investors are more courageous (sort of) than growth investors and dive in first. As a bull matures value leadership is technically bearish and this is what derailed the second rally leg of the current bull market. But the third leg has seen better leadership. Starting in September growth started to beat value. Last week growth stocks screamed upward, providing the highest quality leadership so far in this bull. A growth stock is one where earnings are growing more quickly than the index average, companies that are actually making more money and expanding, not simply avoiding bankruptcy like a beaten down value stock. The leadership change from value to growth is another bullish long term indicator. And we’ve watched leadership switch from China to America as the bull matures. Since America’s economy is almost twice as big as #2 China’s and Uncle Sam is the globe’s cop, this leadership change is another indicator that we are in a multi-year bull market. Therefore, the charts are telling growth investors to pile into growth-type market leaders like GMCR, BIDU, and PEGA. Party on!

Fundamentals: Stop partying. In 1983, when the long term indicator looks like it does today, the economy was growing at about 7%, or 14 times greater than America’s current growth rate (probably about .5% if inventory distortions are accounted for). A 58% rise in the S&P 500 from a bear low on average occurs in the third year of a recovery. So if the recovery is 3 months old, the current market gains are 12 times faster than normal. Most analysts agree that these outsized gains are partially or mainly driven by excess liquidity, which we’ve already discussed. Bubbles fueled by liquidity can last two years and the world’s central banks are in no mood to turn off the tap. So that speaks to holding our stock positions for now but we need to understand what’s happening so we can cash out in time. Milton Friedman taught us that inflation is always a monetary phenomenon. There are many different measures or slices of money supply and during this recovery the different slices are expanding at different rates and in an atypical manner. Since the broadest measures of money supply aren’t expanding very much there has been little consumer inflation, instead we are seeing inflation occurring in asset prices like commodities, stocks, and bonds. The fact that they all 3 are moving roughly in unison (which is atypical) is further proof that we are experiencing asset inflation, not the predictive power of the stock market telling us that a super-strong economic recovery is on the horizon. When bond prices go up and interest rates are low that is supposedly a prediction of further recession. But neither one is really predicting anything. Funds are simply flowing out of money market accounts because of negative real interest rates.
The counter-argument to all of the above is that certain emerging markets are growing at a breakneck pace and these tigers will lift the dinosaurs up very soon through massive export growth. It is also possible that the wealth effect of a surging stock market will stoke consumer spending in the dinosaur economies and the elusive super-strong recovery will then take hold. But this is a bit of stretch so we need to start thinking about market timing and cashing in the big gains that we’ve made so far.