5 Things To Ponder: Motley Cognizance

Submitted by Lance Roberts of STA Wealth Management,

It has been an interesting week in the financial markets as the current correction process has continued. As shown in the chart below, the correction has primarily occurred in the mid, small and international equities as money has rotated into mega-large cap stocks for safety.


(The chart above shows each index on a performance basis relative to the S&P 500 since mid-August.)

The chart above suggests a couple of things:

1) Portfolios that have been allocated outside of a large cap domestic stocks have performed substantially worse than market headlines would suggest, and;

2) The leadership of the market has narrowed markedly in recent months which historically has been an indicator of late stage "bull-market" cycles.

The current correction in the S&P 500 has taken the index into very oversold territory on a short-term basis as shown below.  (As an aside, I do find it somewhat humorous to see the "panic" of individuals over a 3.4% dip. When a real correction occurs the "stampede for the exits" could be far greater than currently imagined.)


This short-term oversold condition should fuel a bounce off of the long-term support that has been in play since late 2012. Such a bounce will give investors an opportunity to rebalance portfolios while we wait for confirmation of a continuation of the "bull" rally. The failure of the market to attain new highs will suggest that a potential trend change has begun, and further correctionary action lays ahead. As discussed yesterday, it is "portfolio management" that creates long-term investment success by avoiding periods of capital destruction.

With that said, this weekend's reading list, as the title implies, is varied collection of observations to exercise your "grey matter." I have also linked opposing points of view to balance opinions.  Enjoy.

1) Warning Flags In The Stock Market by A. Gary Shilling via Bloomberg

"Their enthusiasm waned in mid-January because of emerging-market woes, but soon returned, taking major indexes to all-time highs. Nevertheless, a number of warning flags are flying today. Among them:"

  • High P/E Ratios
  • Slow Economic and Corporate Revenue Growth
  • Earnings Dependent on Profit Margins
  • Fed Tapering

Read Also: Markets' Rational Complacency by Nouriel Roubini via Project Syndicate

2) Market Valuation Overview by Doug Short via Advisor Perspectives

"As I've frequently pointed out, these indicators aren't useful as short-term signals of market direction. Periods of over- and under-valuation can last for many years. But they can play a role in framing longer-term expectations of investment returns. At present market overvaluation continues to suggest a cautious long-term outlook and guarded expectations. However, at today's low annualized inflation rate and the extremely poor return on fixed income investments (Treasuries, CDs, etc.) the appeal of equities, despite overvaluation risk, is not surprising."


Read Also: Valuation Myths by Jeffrey Saut via Advisor Perspectives

But Also Read: Shiller's CAPE - Is There A Better Measure by Streettalklive.com


3) The Middle Class Is Poorer Today Than In 1989 by Matt O'Brian via WP Wonkblog

"The economy has gotten bigger, but much of that growth hasn't reached the middle class. Indeed, the top 1 percent grabbed 95 percent of all the gains during the recovery's first three years. And that's not even the most depressing part. Even adjusted for household size, real median incomes haven't increased at all since 1999. That's right: the middle class hasn't gotten a raise in 15 years."

Read Also: IMF Warns Of Mediocre Growth For Years via Reuters / DW

For More Study On The Middle Class Condition Read: For 90% Of Americans There Has Been No Recovery by Streettalklive.com


4) Peak Housing by Mark Hanson

"The take-away from last month’s housing data was that 'the market was returning to normal', which despite the persevering weakness, was viewed as a 'great thing'. This overly-simplistic and flawed assumption was made, as the all-cash cohort demand dramatically cooled and distressed supply and sales plunged YoY.

What people are suffering from is a lack of a medium-term memory, as what’s happening today happened in 2007/08; 'Peak Housing.'"



5) When Bad News Becomes Bad News by Albert Edwards vis ZeroHedge

"There were two key parts to our Ice Age thesis. First, that the West would drift ever closer to outright deflation, following Japan?s template a decade earlier. And second, financial markets would adjust in the same way as in Japan. Government bonds would re-rate in absolute and relative terms compared to equities, which would also de-rate in absolute terms. This would take many economic cycles to play out. Previous US equity valuation bear markets have taken 4-6 recessions to complete ? we?ve only had two thus far.


Another associated element of the Ice Age we also saw in Japan is that with each cyclical upturn, equity investors have assumed with child-like innocence, that central banks have somehow ?fixed? the problem and we were back in a self-sustaining recovery. Those hopes would only be crushed as the next cyclical downturn took inflation, bond yields and equity valuations to new destructive lows. In the Ice Age, hope is the biggest enemy."


Read Also: Are We In A Permanent Liquidity Trap? by Cullen Roche via Pragmatic Capitalist

But Also Read: What Is A Liquidity Trap? by Streettalklive.com

"October: This is one of the particularly dangerous months to invest in stocks. Other dangerous months are July, January, September, April, November, May, March, June, December, August and February.” - Mark Twain

Have a great weekend.


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