Is the Bull Market Over?
**I was recently asked to share my thoughts on the longevity of the current bull market with U.S. News & World Report. Here's an excerpt of what I submitted.**
Maybe you were at the beach when it happened, and that’s why you didn’t sell all of your stocks, mutual funds, and ETFs. I’m sure if you knew what happened just a few weeks ago — on July 11, 2016 — you would’ve immediately sold it all and gone to 100% cash...
Because it was on that hot summer Monday, as the S&P closed at a new record of 2,137, that the post-financial crisis bull market officially became the second longest-running bull market in history.
That’s gotta be a bad sign...
I mean, surely this doddering old bull that’s charged higher since March 13, 2009, is about to collapse from exhaustion at any minute, right? There’s no way stocks can move higher for another year and a half to beat the 3,452-day long bull from the ’90s, can they?
Maybe. Maybe not.
I’m not personally aware of any formula that can accurately forecast how long a bull market can run. And it’s because bull markets are not a function of time. Rather, at their simplest, bull markets are a function of corporate earnings growth.
So long as earnings per share for companies grows, and economic conditions seem conducive to further earnings growth in the future, stock prices will rise. And that’s pretty much exactly what’s happened since 2009.
Now, I will explore earnings, the economy, and what it all means in a minute. But first, let me tell you why I’m even writing this article. U.S. News & World Report asked for opinions about the longevity of the current bull market. Has it run its course? Does a long bull mean a long downturn is coming? That kind of thing...
So before I start in with my thoughts on the matter, I want to make a quick observation about these questions. And that is this: Media has changed, and you need to be aware of this fact.
These days, the financial media is everywhere. And it is a competitive market. How do you stand out in a highly competitive market? Well, maybe you’ve noticed that every financial website or service now resorts to highly provocative headlines to attract your eyeballs.
You’ll see stuff like “Stock market crash starts tomorrow!” or “Dow 30,0000 next month.” This type of hyperbole now passes as analysis. I mean, if I had a nickel for every time I’ve heard the stock market is a bubble and is on the verge of collapse... well, I’d have a lot of nickels.
Or let me put it this way: I was asked to comment on this record-setting bull market because the underlying assumption is that it is on borrowed time, that there’s no reason for the winning streak to continue. I’m sure that’s why you’re reading this article now.
But there are just as many positive things that aren’t getting the same media attention. For instance, did you know that new unemployment claims have been under 300K for 72 straight weeks? That’s the longest sub-300K streak since 1970, fer cryin’ out loud. And yes, that’s longer than any streak that occurred during the longest bull market on record from the 1990s. But that’s not the kind of headline that people respond to...
Remember the old news adage: if it bleeds, it leads. Headline writers are good; they know what they are doing. And their job isn’t to inform you. It’s to get you to click on an article. They know what you respond to and what you will click on. And they will feed it to you by the bucketful. So be very careful when you see anyone say they know exactly what’s going to happen next. If they really did know, they wouldn’t be yelling it out on CNBC or Twitter or whatever....
Bull Markets Don’t Fade Away
Bull markets don’t simply end. They are killed by recession. And recession is caused by some external shock to the economy.
Why that’s good: The oil embargo of the early 1970s, the high inflation/interest rates of 1981–82, the Black Monday/S&L Crisis of 1990–91, the 2001–02 Internet bubble and 9/11 recession, and the Great Recession of 2008–09 — each of the recessions and ensuing bear markets had a very specific catalyst that caused people to stop spending, corporate profits to fall, and unemployment to rise. So you can be confident that the current bull market isn’t going to just end. There will be some big shock to the system to set off a recession/bear market chain of events.
Why that’s bad: Economic shocks that cause recessions and bear markets are very difficult to predict. They tend to happen fast, and the stock market tends to be a lot lower by the time individual investors figure out what’s going on. And that’s usually about the time investors should be buying, not selling.
Over the last few years, there have been several potential shocks that might have caused a recession and a bear market. There was the EU debt crisis, the Greek bailouts, the fiscal cliff, the Brexit vote, the collapse in oil prices and the subsequent high-yield bond rout, the collapse in commodities prices, and the slowing Chinese economy. But none of these ballooned into recessions.
Are Stocks Expensive?
Warren Buffett said he wants to buy great companies at a good price. It’s great advice, because great companies grow over time. But if you pay too much for a stock, it will take longer for your investment to pay off. So it’s a good idea to pay attention to what valuation metrics like price-to-earnings (P/E) ratios are saying about individual stocks and the stock market as a whole. As of mid-August, Wall Street has the P/E ratio for the S&P 500 at 24.
Why that’s good: Yeah, a P/E of 24 for the S&P 500 is a bit expensive. However, analysts are expecting solid earnings growth for the remainder of this year and next year. More importantly, energy stocks have been a big drag on earnings for the last year. Oil prices have actually done pretty well lately, and if earnings can improve for the sector, that P/E could come down.
In addition, with weak global growth, negative yields in Japan, and the uncertainty around Brexit, U.S. stocks are very attractive to foreign investors. That’s helping the index trade at a premium. Finally, at 2.09%, the yield for the S&P 500 is actually higher than it was last year at this time, despite the higher P/E.
Remember: it’s not a stock market; it’s a market of stocks. If you do your due diligence, you can usually find a great company at a good price, regardless of the P/E on the S&P 500.
Why that’s bad: The high P/E for the S&P 500 means investors are pricing in a fair amount of good news. In other words, expectations are high. That raises the risk that earnings and economic growth will come in weaker than expected and disappointed investors will sell. And the fact is, analysts are usually too optimistic with their earnings forecasts and tend to lower them ahead of quarterly earnings season. That was the catalyst for the big sell-off we saw in January of 2016. If analysts lower earnings estimates significantly (more than 4%) ahead of third- or fourth-quarter reporting season, we will likely see a 10% correction for the S&P 500.
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Is It Really All About the Fed?
The biggest complaint about this bull market is that it is largely driven by the Fed’s easy money policy. This is a legitimate concern. While we haven’t seen the runaway inflation many expected, there have been issues, most notably in the oil patch and in high-yield bonds. Fed Chief Janet Yellen seems to want to raise interest rates. Weak GDP growth and low inflation have kept her from doing so.
Why that’s good: Low interest rates have allowed U.S. companies and consumers alike to refinance old debt and take on new debt cheaply. Corporate and consumer balance sheets are now quite healthy. In addition, low rates bought time for U.S. banks to get their balance sheets in order, which was critical after the financial crisis. And finally, given the longstanding budget deficits, low rates have allowed the federal government to fund itself as cheaply as possible. Low rates have made dividend stocks, especially REITs, very attractive compared to Treasuries.
Why that’s bad: Low rates have created what’s been called “search for yield.” Treasuries don’t pay enough, and that’s pushed investors into riskier assets, like REITs. It may not happen anytime soon, but rates have to rise at some point, which could hurt dividend stocks. Plus, rising funding costs will be a bit of a drag on earnings. And it sure won’t help the federal government.
But the biggest concern about rising rates might come from emerging markets, where corporations have taken on something like $1.3 trillion dollar-denominated debt. As rates rise, this debt becomes harder to service. If global growth does not improve and U.S. interest rates rise, I worry we could see a 1997 Asian Tiger-style currency crisis in weak emerging economies.
What’s An Investor to Do?
If you had sold it all every time the “next financial crisis” was here, you would have missed virtually all of the stock market’s gains over the last seven years. And if you sell now because the bull market is getting long in the tooth, the same thing will happen.
Great companies will continue to be great companies regardless of what the economy does or the Fed does or whatever. Starbucks and Disney didn’t stop being great companies in 2009. The only thing that happened was the stocks were on sale.
So stick to a disciplined investment program that has you adding to your investments every month or quarter. And try to keep a little extra cash on hand to take advantage when stock prices go on sale. They inevitably will. And when they do, it probably won’t be because the “next financial crisis” is here.
Until next time,
Until next time,
A 21-year veteran of the newsletter business, Briton Ryle is the editor of The Wealth Advisory income stock newsletter, with a focus on top-quality dividend growth stocks and REITs. Briton also manages the Real Income Trader advisory service, where his readers take regular cash payouts using a low-risk covered call option strategy. He is also the managing editor of the Wealth Daily e-letter. To learn more about Briton, click here.
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