Is The S&P 500 At A Major Top? The Bears Think So

Includes: EBAY, LAZ, MU
by: Fear & Greed Trader


Major market peaks are associated with market euphoria.

The market isn't in a bubble, and this isn't 2000 or 2007.

A handful of stocks is not a proxy for the entire market.

The S&P is fairly valued at these levels.

This bull market isn't as old as you think.

The stories are everywhere, and many are proclaiming that the S&P is at a "major top" and about to enter into a new bear market.

Scary headlines are still abounding; charts of 1929 are making the rounds on Seeking Alpha articles and blogs everywhere. Many are still obsessed with Fed policy, and earnings quality is being questioned yet again.

China, emerging markets, Ukraine, congressional bickering, lower GDP forecasts all recently made the headlines. Throw in two bear markets that many investors still cannot get out of their minds, couple that with numerous short term scares, primarily from the U.S. sovereign debt downgrade to sequestration and the fiscal cliff absurdity all since the March 2009 lows. These headline events have combined to push investors out of the market and dissuade potential investors to stay out and sit on the sidelines.

Add the cries of many who are warning that the S&P is about to enter a bear market and revisit the lows, that earnings will crater, and its easy for an investor to be concerned and confused.

The comparisons to the 2000 and 2007 market tops and subsequent dramatic declines are presented almost daily by the media and other pundits.

Perhaps a reality check is warranted.

Stock market "major" peaks usually coincide with euphoric behavior, but I am not seeing the euphoric behavior that many are suggesting as they proclaim that we are now at a "major top" and about to enter into a new bear market. Some information to support my view.

Facts that I have gleaned from Schaeffer Research:

Here are the Inflows/outflows into U.S. equity mutual funds in the three calendar years ahead of a bear market. This is combined with the S&P 500 Index return over the same three-year period. The table below indicates the sentiment among retail investors looks absolutely nothing like the years preceding the bear markets we witnessed in both 2000 and 2007.

In a memo to the firm's 11,000 brokers last week, David Kowach, President of Private Client Group, Well Fargo Advisors, wrote:

Commissions that were "a really big driver" of success last year have missed budget this year by about $2.6 million.

In an indication of client wariness about stocks, cash balances in their brokerage accounts of $112 billion are "about the highest level I can remember," wrote Kowach, a 21-year veteran of the securities industry.

Also of note, traditional U.S. stock mutual funds and exchange-traded funds together saw withdrawals of $18.8 billion in the week ended February 5th, their biggest weekly withdrawals on record.

Data points like that reinforces the notion that this market isn't being embraced by the "average Joe" investor.

To the contrary, fund flow data represents skepticism and disbelief among retail investors. I have stated repeatedly here in my commentary on SA that the current bull market is one of the most hated bull markets in history, and I continue to pound that drum.

The word "bubble" has also been conveniently rolled out by the doubters in an attempt to make their case. Stocks like Tesla (NASDAQ:TSLA), LinkedIn (LNKD), Twitter (NYSE:TWTR), Facebook (NASDAQ:FB) and now FuelCell Energy (NASDAQ:FCEL), et al, are brought up constantly to show that a market bubble exists. Many continue to proclaim a handful of stocks as a proxy for the entire market to make a case for valuation.

I prefer to look at the estimated earnings this year for the S&P of $119-$120, and conclude that the S&P is selling at a PE of 15-16.

The metric the bears favor (and have been misled by for years now) is the Shiller CAPE, a cyclically adjusted PE ratio that takes the trailing ten years' worth of data in the hopes of smoothing out the expansions and recessions over the course of the cycle. By this measure, we are on the high side historically at 24 times earnings - but this is an obscenely flawed way of looking at the market now, and it has cost a fortune of anyone using that metric as a guide to position themselves. In essence, CAPE thinks things are overvalued almost all the time. The problem is that investors who believed similarly have been left behind.

If anything, the market is fairly valued, but hardly overvalued, and in my view, absolutely not in a bubble.

"Euphoria," "all in," and "bubble" are words that are thrown around by the doomsters to make their case seem more plausible. They've been grasping at these straws for months, if not years. The data isn't there to support the ill-fated strategy that they have chosen to follow.

There are pockets of euphoria, in certain names, of course, but that is the case in any market, even in bear markets. However, to choose five stocks to make a case and then compare this equity market to the "bubble" we experienced in 2000 is simply disingenuous.

Major tops are also associated with weakness in breadth as only a handful of stocks will continue higher. Last week the New York Composite Advance/Decline Line rose to a new bull market high as the S&P also put in another all-time high. That is not the kind of action one sees at major market peaks.

Indeed, the 1929, (haven't we heard and seen enough of that comparison lately?), 1973, 1987, and 2000 stock market peaks were all preceded by long periods of deterioration in their respective Advance/Decline Lines. That is simply not the case now.

The recent market action would indicate the economy is getting stronger because the economically sensitive Dow Jones Transportation Average traded to a new all-time high last week, thus producing one-half of a Dow Theory "buy signal." There are many other recently reported fundamentals that support this recent price action. Combine this with Q4 2013 earnings and revenues coming in much stronger than expected as the latest earnings reports now conclude that Q4 '13 is turning out to be the strongest quarter for earnings growth since Q3 2011, and are now at all time highs.

Going back to the technical front, if the Dow Jones Industrial Average can do the same as the DJ Transports by surpassing its December 31, 2013, all-time closing high of 16576.66, it will render yet again a full Dow Theory buy signal. Along with the DJ transports, the Nasdaq, S&P 400 midcap (MID) and the Russell 2000 (RUT) also joined the new high index list. That leaves only the DJIA as the lone holdout. I suggest the recent price action suggests an argument for broad market participation rather than a handful of stocks leading the parade higher.

Since this bullish run began we have had more than a dozen Dow Theory "buy signals," so another one may be in the offing. Yet many continue to not only doubt that we are in a secular bull market, but have in fact concluded that the S&P has reached a pinnacle at these current levels and all are now set up for a rude awakening.

The arguments against this present market, don't end with euphoria, valuation, etc., as many also now contend that it is long of tooth at five ears of age. Many suggest that the average age of a bull market is 50 months, and this one is well past its prime, has reached its peak, and is about to come to a crashing end.

Perhaps a second look is warranted.

It must be noted that nobody measures the 1982 to 2000 secular bull market from its nominal price low of December 6, 1974 (the lowest price the INDU would trade at of 577.60). Rather they measure the beginning of the 1982 - 2000 bull market from the valuation low of August 12, 1982 at 776.92 (the cheapest the INDU would get in terms of price/earnings, price/book, price/sales, etc.). So why do pundits insist on measuring this bull market from its nominal price low of March 2009, instead of its valuation low of October 2011?

Obviously to make their case. However if one correctly uses October 2011 as the starting point it makes the current rally only 29 months in duration and therefore not very old at all, and well short of the 50-month average.

In my view, I have concluded that the S&P is not at a major top, but I would be remiss not to mention that this is not the time to throw caution to the wind, nor bet the farm at these historic levels.

Let's not forget the profits that have been garnered and harvested by investors that stayed the course and how far this market has come. The S&P is up over 185% from the 2009 lows, and we are coming off a 30%-plus gain in 2013.

I mentioned that the DJIA has not confirmed the recent move by the Transports and that may in fact prove to be a non confirmation for the averages. One of many indicators I am currently watching that may suggest its time for a pause. Keeping these data points in context suggests caution, as if in fact the market doesn't vault to new highs now, we may be carving out an intermediate top and settling into a trading range with a re-test of the February 5th low of S&P 1737 as a probability.

Furthermore, I am fully aware that there exists a possibility for a 15% or so correction as I warned about this past January that could take the S&P back to the 1560-1570 level which coincides with the breakout level achieved during 2013.

In my view, that would be a pause in the secular bull market that will eventually take the S&P to new highs down the road. That view is far removed from the announcements from the pundits that the markets are set to crash. Along with the cries that we are about to enter a new bear market.

So what should an investor who has participated in this bull market do now?

Perhaps its time to pause, and review your portfolio. There is nothing wrong with harvesting profits on extended positions. With those gains, one can look to add some additional streams of income by adding a few preferred shares or a BDC or two that have excellent yields.

Given the backdrop of my secular bull market theme, I am adding a position or two that represents a story or what I feel is a special situation, so that if the short-term market turns out to be rocky, the name will work out over the long haul. Examples are eBay (NASDAQ:EBAY), Lazard (NYSE:LAZ) and Micron (NASDAQ:MU).

Conclusion: Many have decided they want to make headlines and be heroes by calling the top. Calling tops all along the way to S&P 1850 has been costly and by the time they are eventually right and garner gains from a downside move they might get back to even. Anyone that has been in a negative/bearish mindset finds their plight to be frustrating since they are behind even those that have stayed on the sidelines.

The comparison then to someone that has had a positive/bullish stance is night and day. That is indisputable by any and all metrics, unless one applies fuzzy math to their calculations.

The many that has disbelieved and questioned the entire economic recovery along with the market run will need a Black Swan event that no one can predict to eventually make their position a viable one. Having an investment strategy and setting a foundation for one's financial future predicated on such an event, is at best, misguided.

Predicting, suggesting and waiting for a systemic collapse or the next war as your backdrop is hardly the way to create and build wealth over time. It's simply counterproductive.

The naysayers seem to have cornered the market on such thinking as they have all along, and now once again, as the S&P vaults to new highs, trumpet that this is the top.

I believe they will, in fact, be wrong once again, and suggest that long-term investors can position their portfolios to take advantage of the secular long-term equity story that is currently still in place.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. However, I am long numerous equity positions. The complete list can be seen on my SA instablog. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.