“Are U.S. Stock prices Headed for a fall?” – asked Burton Malkiel in the WSJ
His answer:
+ Dangerously overvalued, is what the CAPE Ratio people have said about stocks:
“Today’s CAPE has been exceeded only during market peaks of 1929, early 2000, and 2007”
+ But stocks are reasonably valued, relative to near record low 10-year yields – of only 2.4%
+ BOTH may be right because “low discount rate can justify high stock prices…”
And: “low rates may persist”. But CAPE valuations look dangerous
His suggestion: Diversify (into markets not so dangerously valued)
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The relationship between Stocks and Bonds over time, is something I want to examine closely.
Last: 8/28/14
SPY : 200.14
TLT : 118.97
Ratio: 1.682 – Stocks are expensive versus bonds,
The historical comparison, and Ratio chart both suggest
Historical– : –SPY- : –TLT- : Ratio
2004yrend : 120.87 : $88.55 : 1.365
2007yrend : 146.21 : $93.05 : 1.571
11/20/08 — : $75.45 : 104.43 : 0.722
12/19/08 — : $88.19 : 122.26 : 0.721
03/31/09 — : $68.11 : 103.65 : 0.657
2010yrend : 125.75 : $94.12 : 1.336
2013yrend : 184.69 : 101.86 : 1.813
History: SPY/TLT Ratio: 3 years
[url=http://s273.photobucket.com/user/jimolsen2/media/SPY-toTLT_zps262bfd3f.png.html][/URL]
History: SPY versus TLT: 11-years : 3-years
[url=http://s273.photobucket.com/user/jimolsen2/media/TLTvsSPY3_zps8c1678a6.gif.html][/URL]
I have identified, past Buy and Sell windows, for purchasing or selling Stocks, which are characterized by:
B /Buy : TLT peaks, at a time when Stock prices are down (Low SPY/TLT ratio)
S /Sell : SPY peaks, as TLT is making a low (High SPY/TLT ratio) – but that’s not the selling point;
the NEXT peak in SPY is, typically a few weeks to 3-4 months later
Those prior SPY-Buy windows were created by a flight to Bonds as stock prices fell.
But something different seems to be at work since 2011, when the Fed began “Operation Twist”, which is manipulating bond prices…
Bond prices have moved to high levels (near the record levels of mid-2012) WITHOUT big falls in equities.
This is related to the Fed’s unprecedented efforts to manipulate interest rates, and the US economy. Now the stock market itself is being racheted higher by rising bond prices (ie falling long term rates), as the Fed’s manipulation takes hold, and investors like Private Equity firms and bankers take record low discount rates as normal, and begin to base their buyouts, buybacks and other decisions on the assumption than ultra-low interest rates can be maintained long enough for their stock and company purchases to yield a return. That was true a few years ago, but it may or may not be true from 2014 as a starting point.
This leaves both stock and bond markets in a highly vulnerable position – with both at/near unprecedented valuations together. What we are now beginning to see, I believe, is a pre-emptive “flight to safety”, with people (like Warren Buffett and George Soros) selling stocks and buying bonds now, BEFORE equities have even peaked. Buying volumes on stocks are way down, and the “pre-emptive” stock sellers are trying to get their money out without forcing stocks lower, by selling lightly, not in a rush. And their buying of bonds is helping to raise bond prices, making it easier for the Fed to keep long term rates down.
The peak in stocks – normally no more than 3-4 months beyond the peak in the SPY-to-TLT ratio, has been delayed now for almost nine months. Stock and bond prices are now rising together. But the SPY may struggle to make progress above the psychological barrier of SPY-200, and SPX-2,000. Will we get a rise in TLT when SPY peaks? Probably. But the scope for further big rallies in bond prices may be limited by the very low returns now offered by 10-year bonds. Will foreigners, who now own so many bonds, want to go on holding if rates go even higher? It is possible that we will see an unusual rush out of dollar assets (rather than a simple shift from SPY to TLT), when stocks peak. And THAT may be very good for precious metals prices.
We live in “interesting” and unprecedented times. Keep your seat belts on.