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Expect Further Losses For Stocks but 10-Year Forward Returns Look Better: Update November 2022

  • The best fit line and prediction band were re-calculated from Jan-1871 to Sep-2022. This added over 10 years of data after July-2012, the end date of the previous regression analysis.
  • The average of S&P 500 for Oct-2022 was 3,726 (20% down from Dec-2021 average of 4,675) and is 207 points higher than the corresponding re-calibrated long-term trend value of 3,519.
  • For the S&P 500 to reach the long-trend would entail only a 6% decline from the October average value, indicating that the S&P 500 is not significantly overvalued anymore.
  • The Shiller CAPE-ratio is at 27.2, only 6% higher than its 35-year moving average (MA35), currently at 25.7, forecasting a relatively high 10-year annualized real return of about 7.5%.
  • However, rising inflation with a falling CAPE-MA35 ratio, similar to what occurred in the period 1964-1973, implies very low or negative 10-year forward annualized real returns.

Posted in 2020, blogs, featured

An Upcoming Recession is Signaled by the Forward Rate Ratio

  • Prior to recession the yield curve becomes inverted, as indicated by the Forward Rate Ratio between the 2-year and 10-year U.S. Treasury yields (FRR2-10) being less than 1.00.
  • The FRR2-10 crosses 1.000  downward signifying that US economic activity is in the boom phase of the business cycle, nearing the next recession.
  • The average lead time after FRR2-10 becomes less than 1.00 to the subsequent recession start was 14 months for the seven of the eight last recessions.

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Expect Further Losses For Stocks And Very Low 10-Year Forward Returns: Update July 2022

  • The average of S&P 500 for May 2022 was 4,040 (14% down from December 2021 average) and is still 1,469 points higher than the corresponding long-term trend value of 2,571.
  • For the S&P 500 to reach the long-trend would entail a 36% decline from the May average value, possibly over a short period.
  • The Shiller CAPE-ratio is at a level of 31.0. That is 21% higher than its 35-year moving average (MA35), currently at 25.6.
  • The CAPE-MA35 ratio is at 1.21 (down from the December 2021 level of 1.51), forecasting a 10-year annualized real return of about 6.3%.
  • However, rising inflation with a falling CAPE-MA35 ratio, similar to what occurred in the period 1964-1973, implies very low or negative 10-year forward annualized real returns.
  • The historic long-term trend indicates a 10-year forward real annualized return of only 1.9% (up from the December 2021 forecast of 0.2%).

Posted in 2020, blogs, featured

The iM-Inflation Attuned Multi-Model Market Timer

  • Investment risk can be reduced by a multi-model market timer whose many components use different and uncorrelated financial and economic data, including inflation.
  • This model seeks to determine effective asset allocation for risk-on and risk-off periods for equities considering the effect of inflation.
  • Four risk scenarios are possible: risk-on & normal-inflation, risk-on & high-inflation, risk-off & normal-inflation, and risk-off & high-inflation. Different ETF groups apply to each risk scenario.
  • From 2000 to 2022, switching accordingly between risk-related ETF groups would have produced an annualized return of about 39% versus 6.5% for buy and hold SPY.

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Evaluating Popular Asset Classes for Inflation Protection

  • We tested nine asset classes which are supposed to provide protection against inflation according to an Investopedia article. The test period was from January 2005 to May 2022.
  • Investopedia provides no definition for inflationary environment, but this analysis uses the 6-month moving average of the inflation rate and the University of Michigan: Inflation Expectation© series to define it.
  • For this investigation we consider separately the inflationary periods which fall within the Risk-on and Risk-off phases for equities, as defined by the iM-Multi-Model Market Timer.
  • From the asset classes listed by Investopedia only the Vanguard Real Estate ETF (VNQ) provided some inflation protection relative to the SPDR S&P 500 ETF (SPY).
  • Better inflation protection is provided by energy sector ETFs XLE and PXE, but energy sector funds were not among the asset classes listed in the Investopedia article.

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The Stock Market Has Peaked, S&P 500 Death Cross For The Ides Of March: Update March 2022

  • The average of S&P 500 for February 2022 was 4436 (5% down from December 2021 average) and is still 1896 points higher than the corresponding long-term trend value of 2540.
  • A reversal to the long-trend would entail a 43% decline, possibly over a short period aggravated by the imminent S&P500 death cross.
  • The Shiller CAPE-ratio is at a level of 35.9 (down 7.2% from its recent peak of 38.7). That is 41% higher than its 35-year moving average (MA35), currently at 25.5.
  • The CAPE-MA35 ratio is 1.41 (down from the end of December 2021 level of 1.51), forecasting a 10-year annualized real return of about 4.6%.
  • The historic long-term trend indicates a 10-year forward real annualized return of only 0.8% (up from the end of December 2021 forecast of 0.2%).

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The iM-Multi-Model Market Timer – Not Your Daddy’s Old Moving Average Crossover System

  • Reliance on a single market timer is risky. The risk can be reduced by a multi-model market timer whose many components use different and uncorrelated financial and economic data.
  • This model seeks to determine reliable risk-on and risk-off periods for the stock market. When there is no definite signal for risk-on or risk-off then the investment is considered risk-neutral.
  • From 2000 to 2022, switching between ETFs RSP, VGT, SH, TIP, BIV and IEF would have produced an annualized return of 34.2% versus 7.0% for buy and hold SPY.
  • The model is not a binary indicator between risk-on and risk-off and does not rely on leveraged ETFs to produce such high returns.

Posted in 2020, blogs, featured

The Stock Market Is Overpriced, Expect Very Low 10-Year Forward Returns And Zero Real Returns By 2028: Update December 2021

  • The average of S&P 500 for December 2021 was 4675 (previous month 4670). This is 2155 points higher than the long-term trend value of 2520.
  • The current percentage difference of S&P 500 level relative to the current long-term trend level is 85%, a value not exceeded in the recent past since 2001.
  • The Shiller Cyclically Adjusted Price to Earnings Ratio (CAPE) is at a level of 38.4. That is 51% higher than its 35-year moving average (MA35), currently at 25.4.
  • The CAPE-MA35 ratio is 1.51, forecasting a 10-year annualized real return of about 3.8%. Should the CAPE-MA35 ratio increase further, then 10-year forward returns will be even lower.
  • The historic long-term trend indicates a 10-year forward real annualized return of only 0.2%, and the current condition of overvaluation suggest zero returns by the end of 2028.

Posted in 2020, blogs, featured

Don’t Buy The 25 S&P 500 Stocks That Have Made The Largest Contribution To The Index’s YTD Return – Higher Ranked Is Not Better

  • Goldman Sachs reported that only 25 stocks accounted for 58% of the index’s 2021 gains, including reinvested dividends, through Dec-9-2021.
  • One can verify the accuracy of this list by ranking the S&P 500 stocks on the factor “Market Capitalization x 1-year Rate-of-Change”, with higher being better.
  • Backtesting to Jan-2000 shows that buying the 25 highest ranked stocks every year at the end of December would have approximately matched the performance of SPY over the backtest period.
  • However, investing similarly in the 25 highest ranked stocks of the lower two terciles of the ranked S&P 500 would have provided over 3-times the total return of SPY.
  • The list of 25 S&P 500 stocks to hold during 2022 is given in Appendix-2, which is expected to provide higher returns to Dec-2022 than the Goldman Sachs list.
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Consumer Sentiment And The Cyclically Adjusted Risk Premium Work Together As A Profitable Stock Market Timer

  • Consumer Sentiment, when expressed as the difference in return of the Consumer Staples- and the Consumer Discretionary sectors, can provide risk-on and risk-off signals for equity investment.
  • Also a reasonably reliable risk indicator is the Cyclically Adjusted Risk Premium (CARP), defined as the inverse of the Shiller CAPE Ratio (CAPE) in percent minus the 10-year note yield.
  • The Consumer Sentiment Timer can be improved by including the value of the CARP in its rules to provide more profitable risk-on and risk-off signals for equity investment.
  • From 5/1/1999 to 10/15/2021 the Consumer Sentiment & CARP Timer, when accordingly switching between ETFs SPY and IEF, would have produced 18.5% annualized return with a maximum drawdown of -27%.

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