The president and the financial media are celebrating as stocks keep hitting new all-time highs. The unemployment rate just hit the lowest level in 16 years while consumer confidence has also hit its highest levels in 16 years. It seems as if things could not be going much better. But as is often the case with economics and investments, it is often calmest right before the storm. Below are 7 charts that tell a different story than the one you will hear from the mainstream narrative. Hopefully these charts will make you think twice before getting too optimistic about this high-flying stock market.
Cyclically Adjusted Price-To-Earnings Ratio ('CAPE')
Robert Shiller's stock market valuation metric (CAPE Ratio) is one of the best metrics for figuring out whether the stock market is cheap or expensive. Not only does the current CAPE number (31.18) indicate an expensive stock market, the only time it has been more expensive was during the dot-com bubble. According to Shiller's CAPE Ratio, the stock market is even more expensive than it was before the Great Depression.
In the past year or so, I have often heard financial pundits trying to justify current stock market valuations by ignoring some metrics while embracing others. But now, the stock market is overvalued according to the large majority of valuation metrics. The overpriced stock market is becoming increasingly difficult to ignore.
An Aging Bull Market
We are currently in one of the largest bull markets in history, in terms of both duration and percentage gain. In the modern era, only the bull market of the 1990's has been more robust. The bullish mainstream narrative will tell you that bull markets don't simply die from old age. However, every single bull market of the past has ended. The fact that this bull market is almost the largest in recorded history should tell us that the probability of reaching another bear market is growing by the day.
Corporate Debt-to-GDP Ratio
Debt is one of the main drivers of an economic expansion. Bull markets usually begin with very low interest rates. When interest rates are low, consumers and corporations are encouraged to borrow more money. Borrowing becomes so cheap in many cases that consumers and corporations often overextend themselves on debt with no real ability to ever pay it back. When the bull market stops, bad debt is flushed out of the system through bankruptcy, and the whole process starts over again.
With the extremely low interest rate environment over the past 8 years, corporations have piled up massive amounts of debt once again. The debt pile is now at levels seen at the end of previous bull markets. We may not be at the top quite yet, but we are very close. The corporate debt-to-GDP growth rate has recently begun to slow and may be rolling over soon.
NYSE Margin Debt
Consumers and corporations are not the only ones loading up on debt. Wall Street investors have pushed their margin debt levels much higher than in the previous two stock market bubbles. One of the reasons that the market crash of 1929 was so severe was because of the excessive use of margin debt. When the stock market eventually does turn lower, heavily indebted investors will be in serious trouble as prices fall below their loan amount. Brokers will demand that indebted investors abruptly sell in order to pay them back. This could cause a cascade of panic selling. Stricter margin rules will likely prevent a 1929-type disaster, but all of this excess debt will only exacerbate the coming crash.
Charge-Offs vs. Unemployment Rate
The consumer is already having more difficulty paying off debts. The rate at which creditors are declaring loans unlikely to be collected (charge-off rate) has been rising over the past couple of years. When the unemployment rate reaches a bottom, it reverts sharply toward the mean as a recession occurs. An increasing charge-off rate is often a precursor for that event. The unemployment rate may be low right now, but the charge-off rate is telling us that the trend will likely change very soon.
Investor Cash Allocation
Professional investors have a lot of trouble timing the market, but individual investors are notorious for getting it almost exactly wrong. They load up on risky assets when the market is near its peak, and they load up on cash when the market is near its bottom. Most individual investors spectacularly defeat the "buy low, sell high" premise.
The American Association of Individual Investors has recently done a survey that shows investor cash allocations at the lowest levels since before the dot-com bubble popped. Because individual investors have been so wrong in the past, you should ask yourself if you really want to be on the same side of the trade as them now.
Goldman Sachs Bear Market Risk Indicator
Goldman Sachs probably won't be winning any awards for having the most ethical business, but they still produce some great investment research. Their Bear Market Risk Indicator has done incredibly well at predicting market sell-offs in the past. We are now approaching levels that almost certainly indicate that a bear market is near.
These charts are not meant to scare you out of the stock market entirely. This bull market's resiliency has shocked many, and there could easily be more profits ahead. Do more research and evaluate more metrics before deciding for yourself when the end of the bull market will be. Just know that it can't last forever, or even much longer. So, please proceed with caution. Reduce equity exposure, hold more cash and think about how you would hedge your portfolio in case of a major stock market correction.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
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.