The gauge on the left indicates whether the market is in a bull or bear phase, and the one on the right reflects the current stock market valuation levels. Stock market pricing indicates whether stocks are cheap or expensive in relation to earnings, but it is a poor indicator of market timing. We do not recommend selling stocks because the market valuation is high; however, we recommend exercising caution when adding new positions.
Bull/Bear Market
The Bull/Bear indicator remains at 40%, signaling a potential bear market ahead. Updates to three market indicators (highlighted in orange below) are delayed because of the US government shutdown. The first BLS release of delayed data is scheduled for Thursday, November 20.
The Chicago Fed National Financial Conditions Index eased to -0.5349 on November 7, indicating loose monetary conditions that support high stock prices. However, a sharp decline in Bitcoin over the last few days warns of a contraction.
Stock Pricing
Stock pricing increased slightly to 98.37 percent, compared to a high of 98.66 percent in late October and an April low of 95.04 percent. The extreme pricing warns that stocks are at risk of a significant drawdown.
We use z-scores to measure each indicator’s current position relative to its history, with the result expressed in standard deviations from the mean. We then calculate an average of the five readings and convert that to a percentile. The higher that stock market pricing is relative to its historical mean, the greater the risk of a sharp drawdown.
A forward PE of 24.8 indicates the S&P 500 is trading at more than a 50 percent premium to its long-term average of 16.1 times projected earnings.
Conclusion
The bull-bear indicator at 40% warns of a bear market ahead, while extreme pricing increases the long-term risk of a significant drawdown.
Acknowledgments
- Prof. Robert Shiller: CAPE 10 Data
- S&P Global: S&P 500 Sales and Earnings Estimates
- University of Michigan: Survey of Consumers
- Federal Reserve of St Louis: FRED Data
- Bureau for Economic Analysis: Motor Vehicles Data
Notes
- See Managing Risk to learn more.
- See Bull-Bear and Stock Valuation for more on our composite market indicators.
Colin Twiggs is a former investment banker with almost 40 years of experience in financial markets. He co-founded Incredible Charts and writes the popular Trading Diary and Patient Investor newsletters.
Using a top-down approach, Colin identifies key macro trends in the global economy before evaluating selected opportunities using a combination of fundamental and technical analysis.
Focusing on interest rates and financial market liquidity as primary drivers of the economic cycle, he warned of the 2008/2009 and 2020 bear markets well ahead of actual events.
He founded PVT Capital (AFSL No. 546090) in May 2023, which offers investment strategy and advice to wholesale clients.