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Wall Street's Most Prominent Former Permabull Is Worried About Just One Number
One upon a time, back in early 2012, David Rosenberg was a prominent bear and deflationist, while his nemesis, Wells Capital's Jim Paulsen, was one of Wall Street's biggest equity bulls. The confrontation between the two culminated with a January 2012 article explaining "What (If Anything) The Bulls Are Seeing."
Since then, Rsoenberg infamously flip-flopped to bullish (predicting incorrectly that wages would rise and TSY prices would tumble), while Jim Paulsen, almost exactly a year ago, threw in the permabull towel and warned on January 10 of 2015 that "stocks are massively overvalued."
Paulsen laid out his skepticism in the following 8 bullet points:
- First, the valuations of U.S. stocks are much higher today than widely perceived or as suggested by the valuation of the popular S&P 500 Index. Moreover, today’s valuation extreme is not limited only to a subset of stock market sectors but rather is very widespread whereby nearly all P/E multiple percentiles are at or close to post-war records. Finally, the current valuation extreme is not the result of poor performance from a single valuation metric. U.S. stocks are broadly and richly priced compared to earnings, cash flows, and book values.
- Second, because valuation dispersion is relatively low today, there are not many areas to hide from overvaluation. In 1973 or 2000, investors could reduce extraordinary valuation risk by simply diversifying away from the Nifty Fifty or new era tech stocks. Today, because values are both high and tight, lessening valuation risk may not be possible except by allocating away from U.S. stocks.
- Third, this valuation extreme has only recently materialized. Charts 2, 3, and 4 show that until 2014, although median stock valuations were relatively high, they were not at the acute or record highs they are at today. Indeed, the current excessive valuation profile is a product of this recovery cycle. The median U.S. stock began this bull market below 12 times earnings in 2009. In the last five years, however, the median P/E multiple has risen by about two-thirds to slightly more than 20 times earnings. It is important for investors to fully appreciate just how much this bull market has already elevated the valuation landscape.
- Fourth, is the current widespread valuation extreme more dangerous than a concentrated extreme simply because concentrated extremes tend to be more obvious and eye-catching? When the Nifty Fifty or dot-com stocks exploded to outlandish P/E multiples, most investors realized the stock market was getting a bit frothy. Today, even though a larger portion of the overall stock market is aggressively priced, it has not garnered nearly as much attention. A concentrated valuation extreme tends to loudly announce itself whereas a broad-based valuation extreme seems more stealth and, therefore, perhaps more dangerous.
- Fifth, how important have record low bond yields and a zero short-term interest rate throughout this recovery been in producing the contemporary broad-based stock market valuation extreme? And, how will this highly valued stock market react should U.S. interest rates soon finally start to rise? Many believe since interest rates are so low today, they could rise for some time before negatively impacting the stock market. However, what if today’s widespread extraordinary valuations actually make the stock market much more sensitive to interest rates?
- Sixth, historically when the valuation of the median NYSE stock has been as high as it is today (e.g., from Chart 2 consider 1962, 1969, 1998, 2000, 2005, and 2007), the overall stock market has usually either suffered an outright bear market (i.e., in 1962, 1969, 2000-2001, and 2007-2008) or a correction (i.e., in 1998). Only in 2005, from a similar median stock valuation, did the overall stock market avoid a correction or bear market until 2008. At a minimum, this historic record suggests investors should proceed with greater caution.
- Seventh, the current valuation profile of the U.S. stock market argues in favor of S&P-like indexation. When the stock market is characterized by a concentrated valuation extreme (like during the early 1970s Nifty Fifty or the late 1990s dotcom eras), investors are best served by avoiding indexation. Often, however, during such stock market manias, investors become frustrated by being unable to match the strong advance in the S&P 500 Index and ultimately are enticed to simply index. For example, during the late 1990s, just as valuation risk became acute among the S&P 500 stocks, more and more investors piled into S&P 500 Index funds. Today, by contrast, some exposure to indexation seems reasonable. The S&P 500 Index may possess less valuation risk than does the median U.S. stock. While the median P/E in Chart 2 is at a post-war high, the S&P 500 market-cap weighted P/E multiple is still far from an extreme.
- Eighth, overweighting international stocks may be an approach to diversify away from the widespread valuation extreme evident in the U.S. stock market. Perhaps international stock markets also are highly valued today. However, since most have significantly underperformed the U.S. stock market in recent years, international markets are far less extended on a valuation basis.
To his credit, Paulson was right in 2012 (even if for all the wrong centrally-planned reasons), and he was right again this past January: as of this moment the S&P is lower then where it was when Paulsen decided to no longer be an unconditional permabull.
However, if valuations were stretched at the beginning of 2015, they are literally off the charts now that both revenues and earnings have posted annual declines, suggesting the median market multiple is now even more stretched than it was a year ago.
So now that the 1 year anniversary of Paulsen's cautious - and accurate - forecast is almost upon us, is the Wells strategist back to bullish mode, or is he even more cautious?
The answer, according to this latest letter, depends on just one number: 5%, the so-called "full employment" threshold. Paulsen says that "not only have stock returns proved much less robust once the unemployment rate has reached 5%, but sector leadership has also undergone a fairly radical change."
In the world of fiction, the most famous threshold may be that of 88 miles per hour. In the non-fictional world of economics and finance, however, an even more important threshold is that of 5% unemployment. At that moment everything changes.
Jim Paulsen explains.
During most of the post-war era, the economy was considered to be near full employment once the unemployment rate declined to between 4% to 5%. Reaching full employment marks an important shift in the economic cycle. Once slack in the economy is no longer excessive, further economic growth begins to pressure resource prices and other business costs, inflation risk increases, interest rates typically rise, and policy offi cials begin to lessen or reverse accommodation.
Chart 1 illustrates the U.S. unemployment rate. Since 1948, the unemployment rate has been at or below 5% (i.e., at full employment) only about one-third of the time. Most of the sub-5% labor markets were either prior to the 1970s or since the mid-1990s. Many compare the contemporary era of low inflation and near-zero interest rates with the 1950s and as this Chart illustrates, a sub-5% unemployment rate during the balance of this recovery seems likely to be yet another similarity.
Since the unemployment rate recently neared 5%, wage inflation has shown signs of quickening providing the underpinnings last week for the first Fed funds rate hike in this recovery. The contemporary recovery has seemingly reached full employment and if history is any guide, stock investors should be prepared for some key changes during the rest of this bull market.
Full employment changes the stock market
Exhibit 1 illustrates the performance of the overall U.S. stock market and its individual sectors during the post-war era when the unemployment rate was above 5% compared to when full employment was reached. The data for this comparison and the sector indexes (the defi nitions of the sectors are shown in Exhibit 2) are from the extensive Kenneth R. French data library. It has market capitalization weighted indexes which include all U.S. stocks on the NYSE, AMEX, and NASDAQ since 1948.
The charts in Exhibit 1 are based on average annualized total returns derived from all monthly data since 1948 comparing returns when the unemployment rate was above 5% to returns when the unemployment rate was 5% or less. Chart 1 shows that nearly every stock sector (except energy stocks) posts significantly lower returns once full employment is reached compared to when the unemployment rate is above 5%. Indeed, the annualized return of the overall stock market is 50% lower once full employment is reached and many sectors (e.g., Chems, Shops, Durable, Other, and NoDur) produce returns which are only about one-third of what they are when the unemployment rate is above 5%.
Chart 2 illustrates that full employment brings new challenges for the stock market. Continued economic growth typically produces cost-push pressures eroding profit margins and infl ation and interest rates usually begin to rise. Although full employment does not necessarily end a bull market, as Chart 2 shows, it does tend to signifi cantly lower future stock returns.
Charts 3 and 4 illustrate that full employment also typically brings a leadership change in the stock market. Chart 4 ranks the annualized sector returns in the post-war era when the economy was at less than full employment while Chart 3 shows the ranked sector returns once full employment is reached. Several points are noteworthy. First, before the economy reaches full employment, returns across the stock market are much higher compared to when the economy is at full employment. Overall, the annualized U.S. stock market total return averaged about 15% when the economy was at less than full employment compared to only about 7% once full employment is reached.
Second, the dispersion of sector returns within the stock market widens considerably once the economy reaches full employment. Before full employment, the stock market sector return diff erential is only 4.27% (i.e., from Chart 4 the difference in annualized returns between the best performing sector NoDur and the worst sector Utils is 4.27%). However, the sector return differential widens considerably to 9.31% once the economy operates at full employment. When the unemployment rate is above 5%, the most important investment theme is to be overweight the stock market. Individual sector or stock picking is less important (because sector/individual stock return dispersion is low) compared to the overall asset allocation decision. However, once at full employment, sector or stock picking prowess becomes much more important. Return dispersion tends to widen improving the potential to add signifi cant alpha from sector/individual stock selections.
Finally, the stock market has usually experienced a significant leadership shift once the economy reaches full employment. Chart 4 shows when the economy is at less than full employment it has been led mostly by consumer sectors (e.g., NoDur, Shops, Durbl, and Hlth). Conversely, at full employment, the stock market has been led more by industrial sectors (e.g., Enrgy, BusEq, and Manuf). While the leadership change is not perfect (e.g., historically, Hlth does well in both environments), Nondur and Durbl are among the best performing at less than full employment and the worst performing at full employment. Likewise, while Energy is among the worst performing at less than full employment it is the best performer once full employment is reached.
Paulsen's conclusion: "Historically, reaching full employment has proved highly significant for stock investors. In the post-war era, once a 5% unemployment rate is reached, both the character and the performance of the U.S. stock market have been altered. While reaching full employment does not necessarily suggest an imminent end to the current bull market, it does suggest investors should anticipate significantly smaller future returns. Moreover, it has often led to much wider return dispersions favoring stock pickers over asset allocators, and finally, it has typically produced a major leadership change away from consumer toward industrial sectors."
Will he be right? The only way to be sure is if Rosenberg issues another lenghty missive dismissing everything said above.
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Merry Christmas Zero-Hedgies!
Here's to continued rejection of the MSM's agenda of deceitful lies and propaganda.
Thank you to ZH and Tyler(s) for promoting if not delivering truth each day.
Hello!
I'd like to offer a small correction to your post.
ZH and Tyler offer us a different perspective on events. We cannot objectively state whether it is the truth, the whole truth and nothing but the truth. All we can do is cast a caustic eye over it and weigh it up against other sources (including the MSM).
Even ZH and Tyler aren't above being kept honest....
Anyway, more importantly, I hope yours (and everyone else's) holiday is going brilliantly. :O)
Keep up the great work, Tyler!
You're a small island of sanity in a mad world.
Merry Christmas and Best Wishes for a Wonderful New Year.
Blessings
K
Ditto!
S&P 666 true valuation.
Hey hey, I'm a wall street'er and I'm concerned about one number. Numero uno! OH!
Answer this question for me ... median P/E multiple is said to be more than 20 times earnings. What is the price to dividend ratio for the market as a whole?
666 level. Is that just fucking crazy or what?
Infidels!
When you hear:
subset of stock market sectors
valuation dispersion
valuation extreme has only recently materialized
widespread valuation extreme more dangerous
contemporary broad-based
stock market has usually experienced a significant leadership shift
You know you are listening to an extreme indoctrinated idiot.
This FUCKER Paulson will go on pumping stocks, watch this asshole.
Very true but I'd put far more weighting on a detailed Tyler article than any of those BS mainstream toilet paper rags. Anyways happy holidays to all at ZH, keep up the great work :D
Right, except that we all know the unemployment figure is total BS, so just do what they tell you and BTFD bitchez!!
Absolutely!! And one should also ask WHAT RECOVERY? as in "As the recovery progresses"? This BS confirms Paulson's position as an Establishment tool. He may have been been right, perhaps, but if so it was for all the wrong reasons and without any mention of the true reason which was manipulation by the Fed.
Making any kind of projection based on blind faith in Government statistics and "The recovery" is at best disingenuous.
As for Rosenberg, he hasn't been right about anything for a very long time (Although, in fairness, I haven't read anything from him for a long time because he no longer issues any free reports and I have better things to do with my time than watch CNBS) but if he remains bullish on equities as of now, he has a very good chance of being wrong again very soon?
He's a FUCKING PROPAGANDA TOOL= just like they trotted out JEREMY SIEGAL! To tell the sheeple the market will stay expensive, it's the new normal !
Find the tallest lampposts for these two arsewholes.
The idea that traditional effects of a 5% unemployment rate will prevail in the current era where labor force particiapation rate declines are what is driving it is laughable. It is also absurd to think that traditional stock market effects will prevail in the current environment. Sorry I'm not buying any of this...
like you said...
and further no mention of the cost of supporting the recently "retired" portion of the work force...
every time i see an explanation that incorporates some aspect of zion street's self serving narrative, i put another tick mark on the wall counting the days until this shit blows up on all of us.
that which is falling should be pushed. let it burn. nobody for president... etc.
merry christmas every one. its been a great day to have a family like ours, and i'm counting our blessings, wishing the same for all - though i doubt it would change things one iota for the sociopaths pulling our levers...
I dont know. I'm kinda getting used to PE's over 250.
Even the nursing ranks are being flooded H visas.
Push out US citizens for the more left voters.
I stopped for fuel yesterday morning. A traditional fuel station where the Mexican and Guatemalans gather in the morning looking for work. Lately more and more negros gather there but now they have started to rush up on any vehicle that pulls in basically demanding work. Trying to step in front of the Mex/Guats.
Obama has created quite an illusion for these 'folks'. But he forgot to follow up with real jobs for them.
Next time I'll take a Mexican just to spite the fucking magic negro. FUCK YOU!
You ought to take a match to a striking surface as you are driving away and yell "Yippie Ki Yay, mother fuckers!"
If you want a hard worker, you should pick the Mexican anyway.
Mexicans still work hard.
Negros never did.
<<Hate them for not working
<<Hate them for trying to work....
pick one
Stocks are never going to go down again. Old, rich whitey, will simply hold them and just before he croaks he will sell his 10 shares of Chipotle to the rich banker kids who will drive them to 1200 minus the ecoli.
If my calculations are correct once this entire fraudulent fictional global economy hits the right magic number we're going to see some serious sh*t.
https://www.youtube.com/watch?v=JFT7hNhop7w
According to John Williams we are at 23% unemployment. Down is up and up is down. Know one knows what is going on, what will happen, or when. I just hope global war will be avoided.
and I'm hoping Scarlett Johansson sits on my face (while we're doing some hoping).
The article only makes sense "IF You Beleive" the unemployment rate is at 5%
Come on people
Actually agreen on the 23%, reckon 25% more but through tricks of recording and excluding many from the statistics they can mouth the 5%. In South Africa read an article a while back they reckon it is about 50% unoffocial but have settled on it being in the 20% range.
Now go look at all the bailout countries, Spain is struggling to pull its unemployment below 20% because there is no economy and the same for Greece.
That is the state of play of human technological efficiency and all the last 5 years has done is drive that efficiency even higher. Once you incorporate an efficiency saving it is never overturned so it is here to stay.
Here is something to think about from the archives, ZERO unemployment.
http://www.zerohedge.com/news/thought-experiment-absurd-zero-american-un...
good link
i especially liked this comment:
Ookspay
Yep, numbers and statistics are like terrorists, if you torture them long enough you can get them to say anything.
Assuming everything is completely normal in almost every possible way, my analysis is ...
FRAME FRAME FRAME.
You know what they call a 3D frame?
A box.
Well in a Virtual 3-D World it is not there when we do not see it. Only through the turning of our heads does a non existent image manifest.
The problem occurs when we develop that Object Permanence as we progress through the developmental stage.
Of course it seems as if the entire Financial World has regressed back into the Magical Thinking of infanthood.
It is like a life lived on a Starship Holodeck.
And we will be needing lots of those 3-D Boxes, as coffins, when the Financial World steps out of its Virtual Reality and faces the nightmare which they have developed.
I'm tending to agree with you. 5% typically corresponded with a tight labor market. But given the huge decline in labor participation rate and part time jobs replacing full time jobs and little wage growth , there is a ton of slack in the job market
By using this logic, the DOW should be good for at least another 10-15,000 points because 5% is fabricated bullshit and it's more like 20% so in actuality we will have a -10% labor rate, along with -10% interest rates, before it's the end of the bull.
Raise your hand if you think unemplyment is actually 5%...
322 Million U.S. population - 119 Million taxpayers = 203 Million non productive tax producers = 72% roughly.
Slick Willy is raising his hand at this very moment.
He also was the only one in modern times to balance the budget (by borrowing against the booked Social Security Fund/Ledger which has never been paid back).
stroke of blood-thirsty nyc genius to steal the money and replace it with non-marketable securities (meaning you can't sell the damn things to recoup what was stolen)
Balance The Budget....LOL...that's fucking rich.
The US Gubbermint's "budget" hasn't been balanced since the fucking 1,800's!
Number trickery, fudgery, all out wiping of debt(s)/covert ops......jeeeeeeeeesus tits....talk about financial effulvium.
Next - you'll spout that Clinton left Bush a "surplus" - also totally asinine, as THAT was based on TEN YEAR PROJECTIONS.
Like Bush blew through the "cash"..which is the dumbed down/told what to think's mantra.....
The attempts to determine relationships between lies and lies is rather pathetic...
5% unemployment? Full employment? Give me a break!
What is that U6 20%?
http://www.usdebtclock.org/
322 Million U.S. Population
119 Million U.S. Taxpayers
45 Million on Food stamps.
43 Million living in Obama poverty.
160 Million recieving Gov benefits.
$100 TRILLION in U.S. unfunded liabilities.
$64 TRILLION in U.S. Total debt.
Total $164 TRILLION of U.S. fiat debt.
yeah...even more staggering....people STILL believe that DEflation will set in
fading that b.s. for a decade --- frbny will continue to devalue their frn vs physical assets. either that or get killed by the (m)asses
don't know about deflation "setting in", but it is happening right now, look at price of oil, gold, silver, copper.
look at what happened after lehman, there was a deflationary bust as debts went bad (destruction of currency = deflation), then the government intervened with large cash injections and things started to inflate again.
mike maloney thinks there will again be a big deflationary bust coming up soon, and again gov will intervene with some sort of mega-QE leading to hyperinflation. i think he may likely be right, but we will see.
Costco has simply stopped carrying what they would have had to raise price on. Zippers that fail after a few uses. Food Stuff/Package sizes are smaller and the price has gone up. the boxes are thinner but look the same on the grocery shelf, with less inside. Amazon selection of clothes is an example of Nothing but Crap to select from. Sizes are off, designed for Asian body, long arms, short waists, small busts. And, substandard fabric. Cotton which cannot take a wash and dry. Smothering polyester. Mixture resulting in one block of fabric section shrinking, the others not. Gift baskets as well. Big box with 2 little chocolates looking lonely in decorative wrapping sized for twice the size. Selection is disappearing in the Available merchandise. Quality is all but forgotton to make a cheap sale. Ensuring returning customers is not their goal.
Just remember this - when the shit hits the fan you want to have a plan "B". You do have a plan "B" dont you?
Mine goes like this:
First three months, shelter in place. You need food and water, firearms for protection. Keeping in mind that most people have less than $1000 to their name, you trust nobody as your next door type is the one most likely to shoot you during this phase of the drill. Hopefully some order is restored.
If it goes past three months you are into full on Mad Max stuff. At this point the world belongs to the young and strong. All you old grey fucks need not apply.. ........
Oooops. Sorry. For the fed monitors - Well you should go long on this and short on that. Sell into the peaks and buy at the dips (How am I doing guys.) and never mind those pesky P/E ratios, none of the fundamentals mean anything anymore. IN the age of 20 trillion dollar debts not much of anything is real. It is all BS.
The Mad Max solution doesn't benefit the Uber rich who will be relatively unaffected when compared to Joe 401(k) come a total economic implosion, so to maintain their power, the nuclear option will be put into place much like 9/11 was put into place to kick the economic can down the road a bit. Wanna get rid of rioting masses of government assistance recipients and poor 401(k) reliant trendies before they have the chance to start going all out Mad Max, nuke the major city centers while instituting Marshall Law throughout the remainder of the country. There was a very unpopular Carol Barber series on CBS back during Bush called Jericho which is the more likely scenario to come a/o/t full out Mad Max.
Jericho was great, well written and acted, especially for a network show. Too bad they didn't renew it.
Agreed. When I said "unpopular"I didn't mean with we, the masses, but with the political arm of this country. The show was fantastic and as you saw in the second season, 26 major American cities were nuked for no other reason than to allow a major politically connected multinational to take over the country. Implausible? Since the bank (and concomitant) bailouts in this country, I'd say nothing is implausible when gaming financial power strategies.
FIVE PERCENT UNEMPLOYMENT THRESHHOLD?! buah ha ha ha ha ha ha ha!!!
SERIOUSLY?!
5 as in the number of fingers on your hand 5-percent?! REAL Unemployment has been literally triple to quintuple that number ever since the first Bush left office when you disallow all the not-counting shenanigans of working-able-people (allegedly)choosing to not participate in the labor force.
Everything should have imploded long ago and since it hasn't the present "faith & credit" system of fiat really makes one wonder when it'll all go poof.
88mph is less fictional than 5% 'unemployment'.
I wonder what those numbers would look like with apples to apples comparison of employment. Perhaps we could use the 'not in workforce numbers' instead. I feel itchy when I start to believe that we really have 5% unemployment and it makes me question my eyesight and sanity. I mean bartending can be a sweet gig...but for everyone?...I'm too old to do all the drinking society now expects of me.
It makes one wonder why a Paulson type would blather on as if the whole labor market and stats were either comparable with the past or legitimately calculated. Most jobs these days suck compared to 30-40 years ago. Gets worse every year.
Is he just playing along for the sake of appearance? Are Wall Street types that out of touch?
True, aqualech. Plus, Paulson should also know that the unemployment numbers are not reliable, and further, there are no real "comparables" with the current period of supposed recovery + dismal labor force participation rate + dismal wages + Xtreme QE + permaZIRP.
In short, technical analyses such as this are mostly futile, because fundamentals are dead...or at least, for now, on life support.
I believe in economic connectivity along these lines ...
A profitable company is able to pay out a decent dividend on shares because of its trading position.
Now inflate the stock market the last five years ... stock overvalued now.
The company to justify its position must then suppress wages, remove redundancy to attempt to maintain the current market valuation. This point is limited in amount you can generate and the length of time before a corporation runs out of funds.
Fail to do this then the only thing that can change is the currency in this case the dollar must change in value radically to support the stock market valuations. The dollar is strengthening but think in numerical terms the corporations actually need more dollars in takings.
The FED to use QE again to get the more dollars into the economy, give corporations the ability to then get them and support the share price.
In all instances the connectivity ripples the marketplace. #
These ripples (the movement) are what traders are trying to exploit.
I think that record low bond yields and ZIRP have been integral in producing the extreme overvaluation of equities. First, we've got executives issuing bonds that yield starved investors are snapping up. They're not putting this capital to any productive use besides boosting the valuation of their stocks. Second, as I mentioned before we have the hunt for yield which is driving investors into riskier and riskier assets including equities. With the current distress in the high yield bond market spilling over into IG, stock buybacks are in jeopardy. I imagine with further interest rate increases we're going to see increasing distress and contagion in the bond markets. How could the equity market do anything but revert to the mean? I'd say 2017 is the longest they could possibly kick the can, however I doubt that it will even hold together until the election. Anyone have anything to say about whether or not widespread extraordinary valuations affect the sensitivity of equities to interest rates?
BINGO ! I thought this was common knowledge. It remains to be seen whether these corporate traitors will still issue more debt for buybacks because the projected buybacks are still near record levels. You have companies like Conoco selling anything not nailed down and axing headcount to fund $6.5 BIL ANNUAL DIVIDEND!
The lift on oil exports, as I see it is the 1st attempt at bailout of the oil/gas fruckers, I suspect to bail the banksters out on their loans, so they can extend them a year.
We all know that the only sector that is not allowed to participate in the inflationary cycle is labor. So, even though the measured employment number is a complete fraud, the profligates will use it to go a few rounds with the whipping boy....because that really is what it is all about
And don't think TRUMP won't be LABOR'S WORST NIGHTMARE !
^^^ Yup. I bet Trump attempts to repeal the Davis- Bacon Act . Tip O'Neil not around to help with that anymore.
So, p/e has tripled, HAS THE GDP ?> FUCKING PROPAGANDA TOOL PAULSON arsewhole.
Using a non-corrupt deflater, GDP has been FUCKING FLAT for 10 years I bet (averaged)
Paulsen is the Mpls "shill for CNBC" who took the place of Joe Batapaglia. Remember Joe from the Dot.com bubble?
Fuck both their asses and halve this market already.