Have We Seen the Final Highs In Stocks?
Nobody can truly read the future (at least I have never met anyone) so when it comes to investing, it comes down to probabilities.
We have highlighted many concerns about stocks today including but not limited to:
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- Record high level valuations – PE10, trailing PE, Buffett Indicator etc.
- Record levels of positive sentiment which is generally a sign that we are near peak
- 9 years into a recovery, which is one of the longest cycles in history
- Record levels of debt in all areas including household, government and corporate
- Record high margin levels – money borrowed to invest in stocks
- Higher levels of valuation in FAANG stocks (top technology companies) than we saw in 2000 at the technology peak, which we thought would never be surpassed
- Movement towards populist governments like Trump in the US – what we saw in the 1930’s
- Cycle low unemployment rates, which is a sign that this cycle is over
- Interest rates are rising which is very negative for stocks
- Quantitative easing has turned in to quantitative tightening, meaning bonds and other fixed income securities are being sold back to the marketplace by Central Banks – pressure up on interest rates
The list could go on, but it is clear that we are at extremes like we have probably never seen before. So, what is important is to watch for signs that we are at the top of this market. Here is something we have been looking for. In the past two crashes, the Dow Jones Industrial Average peaked but it was followed by the peak of the tech heavy NASDAQ index. That is precisely what just happened:
In the current case, the DJIA peaked on January 26h, 2018 and the NASDAQ peaked on March 12th. That is a lag of 44 days. So, lets see what happened at the last two peaks.
Here is the 2007 peak before the crash of over 50%:
In this case the DJIA peaked on October 9, 2007 and the NASDAQ ended up peaking 22 days later on October 31st, 2007. Again, the NASDAQ peaked after the senior market Dow Jones Industrial Average. The time was shorter, but if any of you have a memory of this period, it quickly translated into a massive financial crisis with major investment firms and banks going bankrupt.
Here is the tech crash of 2000:
This is a period more similar to today, as the market was peaking without an immediate crisis. Tech stocks were overvalued but as you will see below, not as overvalued as today. There was a mania for technology, especially .com shares.
In this case the DJIA peaked on January 14th, 2000 and the NASDAQ peaked on March 10th, 2000, a total of 54 days. Look at how closely the peak dates are to todays peaks as well as the number of days.
Markets will not completely repeat themselves exactly, but they do rhyme many times.
Of course, there is no guarantee this is the peak but many analyses we follow, is stating that there is a very good chance the peak in stocks has been reached, and the downside could be significant.
Here is another example of how expensive stocks are today. We had thought that technology stocks would never reach the heights that we saw at the end of the technology boom in 20000.
Back then, the NASDAQ served up an annualized return of 66% in its final two years of dot-com mania. Only after the balloon had burst did people begin to question the lunacy of paying 10x revenue for the privilege of being a shareholder.
Ironically enough, since early 2016, the top 10 growth names in tech collectively produced an annualized return of 67%. That’s right. The NYSE FANG+ Index has topped turn-of-the-century craziness.
For the current bull-bear cycle, then, we may be witnessing peak FANG fanaticism. Components of the NYSE FANG+ Index like Facebook, Netflix, Twitter and Nvidia currently provide mind-boggling price-to-revenue (P/S) ratios of 13.3, 12.3, 10.9 and 15.3. These numbers are crazy, and valuations are as ridiculous as we have ever seen.
To put price to sales ratio in perspective, any number above 2 is considered expensive. Today the S&P500’s price to sales ratio is just above 2 and is the most expensive in history.
Bottom line is, we continue to watch close and will use our indicators to dictate the actions we take.
Chief Investment Strategist