The American economy and the American stock market have never been more bifurcated. While the economy appears to be running on fumes, the stock market keeps going like the Energizer Bunny, reaching new all-time highs on seemingly a daily basis. However, if one looks closely, there are cracks either forming or widening. Another analogy would be flags (red for danger) denoting the pin placements on golf greens that are appearing. There is no doubt more than 18 flags, but following are stock market flags for an 18-hole golf course:
1.) The Buffett Indicator (stock market value divided by GDP) is currently 217%. This is the highest on record.
2.) The S&P 500 Price to Sales Ratio is currently 3.35. This is the highest on record.
3.) The Schiller Cyclically Adjusted Price Earnings Ratio is 39.84. This is not the highest on record, but pretty darn close.
4.) The United States' fiscal situation is a runaway train approaching a wreck in slow motion. The projected deficit for the fiscal year ending 9/30/25 will fall in the $1.8 - $1.9 trillion range. This is about the same as the previous fiscal year and the highest ever outside of the Covid pandemic era.
5.) Margin debt for investors is $1.023 trillion. This is up 26% in the last year, and the highest level ever. 3X Leveraged ETFs have drawn significant interest. These products are designed to deliver 3 times the daily return of their underlying instrument.
6.) The interest in purchasing call options has surged over the past couple of years. This is a sign of an excessive bullish outlook.
7.) There is a lack of breadth in the stock market. The seven tech companies that compose the "Magnificent Seven" represent 30-35% of the market.
8.) Reports indicate a significant upswing in corporate bankruptcies in 2024 and 2025, reaching levels not seen since the 2010 post-recession period.
9.) Many consumers are tapped out on their credit cards. Also, new TransUnion data shows almost 30% of student loan borrowing in repayment are delinquent on their payments and facing a "financial reckoning."
10.) The housing market is effectively frozen. Sellers are reluctant to lower their elevated asking price,and buyers, especially first-time home buyers, simply cannot afford to buy at those price levels.
11.) For the most part, leading economic indicators show the economy continues to slow. Job additions have stalled, and there was a massive (800,000) downward revision a couple of months ago.
12.) Passive investing now represents over 50% of the inflows into the market. In Mike Green's parlance, this "Giant, Mindless Robot" has destroyed the pricing mechanism of the market and goosed returns. An increase in unemployment or increased demand for retirement plan withdrawals could reverse the previous momentum and head in the opposite direction.
13.) People mistakenly associate a yield curve inversion as a sign of a pending recession. The uninversion is the actual indicator. The yield curve uninverted this month.
14.) Wall Street has experienced an uptick in Initial Public Offerings (IPOs) and Special Purpose Acquisition Companies (SPACs).
15.) Goldman Sachs' Speculative Trading Indicator (STI) has risen sharply, hitting levels only seen during the dot.com and pandemic-era bubbles.
16.) Partly due to FOMO (Fear of Missing Out), retail investors have continued to blindly buy the dips while institutional investors have taken a more measured approach. FOMO can be best explained by the phrase: "Nothing is worse than watching your neighbor get rich in the market."
17.) The jury is still out, but I believe history will treat the Trump tariffs as bad economic policy. Tariffs are a tax and thus a drag on the economy. They are paid by either American importers or American consumers. Some of the high tariff items like steel and aluminum are incorporated in manufactured products that are intended for export. The added expense makes it difficult for many American exporters to compete in the world market.
18.) Artificial Intelligence (AI) is the story that has captured the market's imagination. Much of the gains over the past couple of years can be directly attributed to the promised productivity gains enabled by AI. This in turn is supposed to boost corporate in a powerful way. We shall see. Many smart people are questioning whether the massive capital expenditures in pursuit of AI can ever be monetized to the extent necessary to recoup the aforesaid capital expenditures. Like the Internet, AI will change the world. Also like the Internet, it won't happen overnight and not everybody will be a winner.
Like the weather, predicting the movement of the stock market for more than one to three days in the future is a fool's game. However, that doesn't stop some of us from making bold predictions. You might want to take my forthcoming prediction, more guess actually, with a grain of salt. Although not a Perma Bear, I have called for a severe (more than 30%) drawdown multiple times over the past decade. None have come to fruition. Anyway, here goes nothing: Over the next 6 months, I think the S&P 500 will appreciate an additional 10% and top off around 7,250. During that 6-month period, there will be a 5%-10% correction at some point before rallying to 7,250. Between 6 and 12 months from now, the market will run out of gas and swoon a minimum of 30%. I end with a classic quote attributed to the famous English economist, John Maynard Keynes - "The market can remain irrational longer than you can remain solvent."
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