Considering the frequency of these posts, maybe it would be more apt to label this “month in review” rather than week in review. I hope to be a little more consistent in my market commentary from here on out, but intentions and reality can often diverge.
Since my last post, the market has rallied 5.73%. Without patting myself on the back too much, it seems that mid June was indeed a lot closer to the end than the beginning of the selloff. Since then the pendulum has swung rather quickly (and with little reason) from fear towards greed.
Many would probably argue that we rallied because a bandage was applied to Greece or Japan is coming back on line, but I think the real reason is simply that stocks got too cheap. “Consensus” is still expecting the S&P 500 to earn $100 for the current year, which means that at 1260, we were trading at 12.6x earnings. Assuming the 30 year bond is priced correctly (it isn’t, but just to entertain) equities were trading at nearly a 400 bps spread to treasuries on a forward earnings yield basis. That seems too high to me.
We’ve rallied a lot, but unlike my view in my last point, I think we’re closer to the beginning of this move than the end. To be sure, we’ve gotten pretty overbought in the last couple weeks, but this week and particularly today were a nice breather for a bullish market. Barring a total flub by congress on the debt ceiling (which I don’t think will happen) it looks to me like we’re entering the third leg of the economic cycle in which disbelief turns to belief turns eventually to euphoria. Spare capacity though ample now should begin to tighten from here and CPI inflation likely will begin to pick up as the year moves on. On a day where unemployment rose to 9.2% it’s tough to see this happening, but that’s typical. Clarity tends to come with hindsight.