Market Outlook: A New Reality Check

Includes: DIA, QQQ, SPY
by: Michael Panzner

I've often noted that markets don't move in a straight line. Even during one of the worst bear markets in history, when the Dow lost around 90 percent of its value from 1929 through 1932, there were numerous double-digit percentage rallies along the way (see "Bear Market Rallies").

So, just in case you feel a sudden urge to join the permabulls, panicky short-sellers, serial bottom-callers, and greater fool investors who've helped drive the market up 25 percent since it hit oversold extremes in early March (aided, of course, by relentless Washington cheerleading and smoke-and-mirrors earnings announcements), below are (just) three reports that put a slightly different spin on this allegedly bullish new reality.

"Equities Still a Bubble and Equity Guys Out of This World, BNP Paribas Says" (FT Alphaville):

Yes, really. In a note issued late on Thursday, the credit analysts at BNP Paribas argued that “despite a close to 5o per cent drop in equity valuations, equities look not only rich but are significantly mispriced and are a bubble waiting to be pricked.”

Moreover, they contend that equity analysts are “ignoring the tremendous value embedded in investment grade credit.”

Here are some highlights, which include quite a lot of snickering at the “unfathomable” bullishness of equity types (emphasis ours):
Over the past equity bubble decade, it has become fashionable for equity analysts to concentrate on Operating earnings as opposed to As Reported earnings, which factor in write-offs and restructuring charges (Charts 1 and 2). While the difference between the two measures was insignificant until the internet bubble, that difference has grown significantly to the extent that operating earnings look like numbers plucked out of thin air with little resemblance to economic reality. As credit analysts, we are taught that, for a given revenue base, rising costs lower profits, raise leverage and lower creditworthiness. How equity analysts can ignore this fundamental credit analysis is unfathomable to us.

"Insider Selling Jumps to Highest Level Since 2007" (Bloomberg):

Executives and insiders at U.S. companies are taking advantage of the steepest stock market gains since 1938 to unload shares at the fastest pace since the start of the bear market.

Gap Inc.’s founding family sold $45 million of shares in the largest U.S. clothing retailer this month, according to Securities and Exchange Commission filings compiled by Bloomberg. Daniel Warmenhoven, the chief executive officer at NetApp Inc., liquidated the most stock of the storage-computer maker in more than six years. Sales by the co-founders of Bed Bath & Beyond Inc. were the highest since at least 2001.

While the Standard & Poor’s 500 Index climbed 26 percent from a 12-year low on March 9, CEOs, directors and senior officers at U.S. companies sold $353 million of equities this month, or 8.3 times more than they bought, data compiled by Washington Service, a Bethesda, Maryland-based research firm, show. That’s a warning sign because insiders usually have more information about their companies’ prospects than anyone else, according to William Stone at PNC Financial Services Group Inc.

"Bear Market Rally? Look at Gains & Volume" (The Big Picture):

In the light of today’s rally, perhaps it would be instructive to look at the volume on some past rallies. Fortunately, William Hester at Hussman Funds has done the heavy lifting for us, as these two charts show:

Changes in S&P 500 Leading to, and Coming Off of, Major Troughs

[click to enlarge]

rallyvolume1Click to enlarge
(Note: Data set = bear-market bottoms since 1940 )

Volume Changes From Major Bottoms

rallyvolume2Click to enlarge
(Note: Data set = bear-market bottoms since 1940 )

Charts courtesy of Hussman Funds

Eventually, one of the Bear market rallies will be the one that is the turnaround. But until then, its guilty until proven innocent.