Last week, the S&P500 climbed yet again…..this time adding about 0.5% over the previous week’s close. Volume was very light, as one would expect during the middle of the summer. And not surprisingly, the VIX index slipped back down to the lows of 2017. So US equity prices set new all-time highs, with little investor enthusiasm and with record low levels of fear. What could go wrong?
At the same time, US macro news was mixed. The Empire State manufacturing survey missed badly….coming in about 50% below expectations. US export prices were much lower than anticipated; this hurts corporate profits. The housing market index missed, and the Philly Fed business outlook survey also missed. On the bright side, initial jobless claims were a bit stronger than predicted, and leading indicators beat consensus estimates.
In terms of technical analysis, the picture remains unchanged from the prior week—the S&P500 remains extremely overbought. Not only is the index well above the 50 day moving average, but it’s bumping up against the upper Bollinger bands on the daily, weekly and the monthly resolutions; this is not something we see very frequently.
In terms of valuation, another milestone was hit last week. The S&P500’s Shiller Price to Earnings ratio reached 30, which is where the index peaked in 1929 before crashing by over 70%. While the Shiller PE exceeded 40 briefly in the run up to the dot-com bubble collapse, the current valuation tells us that investors are now in the second most over-valued stock market environment in US history.
Of course this does not mean that a crash, or even moderate correction, is around the corner. But it does mean that the downside risk to being long the S&P500 is probably greater than the upside opportunity for further price appreciation. As simple as this sounds, and as reasonable as it sounds, most investors will go on their merry way—-staying very much invested in the S&P500—-not worrying much about capital losses because everyone else seems to be fully invested in US stocks and besides, with interest rates still so low, there is really no reasonable alternative to stocks. Right?