The S&P500 bounced back last week with a 1.38% rise on very low volume. Volatility fell back to lows last seen in 2007; complacency has completely taken over the US equity markets. While not a lot of buying is going on (witness the very low volumes in weeks when stock prices rise), there’s also very little selling. The consensus is clearly that stock prices will never go down severely, and any minor dips are merely good buying opportunities.
Technically, the uptrend is clearly intact—on both the daily and more importantly, the weekly resolutions. While US equity markets are clearly overbought, the strong uptrend suggests to technical traders that there is no reason to sell. In fact, the strong trend is implying that investors should not only hold their positions but even add to them—to continue to ride the trend upward. On the other hand, several breadth indicators are slightly less bullish. For example, the percent of stocks above their 150 day moving averages is high, but not nearly as high as it was at prior peaks over the last four years. This suggests that as stock markets keep rising, more and more of the work is being done by fewer and fewer leaders, rather than the broad population of stocks in the entire market.
US macro data is still not gaining any meaningful strength. Yes, the Empire State Manufacturing Survey beat expectations, as did industrial production and the Philly Fed Survey, but housing starts, leading indicators and consumer prices all disappointed. The US economy—almost five years after beginning to ‘recover’—is still struggling to reach escape velocity.
Also, as discussed last week, the Federal Reserve did further reduce its latest QE program, meaning that it’s looking even more likely that the entire asset buying program should end this fall. And once again, it doesn’t look like the US stock markets have fully digested the implications of this ending. Every time prior QE programs (or similar) have ended since 2009, the US stock markets have corrected significantly. Will this time be different?
Finally, as mentioned above, the VIX index just touched lows last seen in 2007. Interestingly, many other significant indicators reached levels last seen in 2007—-about a year before the stock markets crashed. Margin debt has returned to peaks. Leveraged loan issuance has returned to 2007 peaks. The removal of covenants has reached 2007 peaks. The percent of investors who are bullish has returned to 2007 peaks. And there are many more.
At the same time, the Fed is tightening (by winding down QE)…..just like it was in 2007.
So there are lots of similarities in the markets today to what was happening in 2007. Soon, we will see if history rhymes or, on the other hand, if equity markets have reached a permanently elevated state that is invulnerable to serious corrections.