6 reasons why an equity bear market has begun

Market leadership

Out of 35 country stock markets, just four are up this year, led by the Norway and the U.S.  Thirteen are down by double digits.  China and India, which account for 18% of the world’s GDP, are -15.4% and -20.7% respectively.  Even within the U.S., fewer and fewer stocks are participating.  According to Delta Investment Management, just 50.8% of 3,600 stocks are in uptrends, even though the S&P 500 is up 13.1% over the past 12 months and just 1.5% below its all-time high.

 

Investor sentiment

Sentiment has rebounded from the whiff of pessimism created by the February-March selloff to levels of extreme bullishness.  Sampling our 10 favorite sentiment indicators, the median reading is in the 90th percentile of bullishness.

 

Bullishness Percentiles

Indicator 10-YearBearish

Extreme

10-YearBullish

Extreme

Recent

Value

Bullishness

Percentile

Date ofRecent

Value

S&P 500 2901.61 10/4/18
VIX 59.93 9.14 12.12 85th 9/28/18
3-Month VIX 48.90 13.00 15.75 87th 9/28/18
Investors IntelligenceBulls – Bears -26.4% +54.0% +42.3% 92nd 9/21/18
Consensus, Inc.Bulls 18% 78% 69% 68th 9/21/18
AAII Cash Allocation 44.8% 13.0% 16.0% 84th 9/30/18
NAAIM Equity Exposure Index (Median) 0% +100.0% +82.5% 59th 10/3/18
MMF / Mutual Fund + ETF Assets 41.0% 12.2% 12.4% 99th 8/31/18
Mutual FundCash Levels 4.1% 2.9% 3.0% 94th 8/31/18
Rydex Bear Fund Assets / Total Assets 59.2% 3.4% 4.8% 96th 10/3/18
Rydex MMF / Bull +Sector Fund Assets 98.6% 6.8% 7.1% 93rd 10/3/18

Sources: Investors Intelligence, Consensus, Inc., American Association of Individual Investors, National Association of Active Investment Managers, Investment Company Institute, Guggenheim Investments, Bearing Asset Management

 

Interest rates

Interest costs on the $21 trillion federal debt have doubled since the 2016 election as we move closer to trillion dollar budget deficits.  The 30-year Treasury bond yields 3.38%, a 4-year high.  The 10-year yields 3.23%, its highest level since 2011.  Cash (using 2-year T-bills as a proxy) is the most competitive with stocks since late 2007.

 

Liquidity

The world’s central banks have been cutting back on quantitative easing.  The Federal Reserve has contracted its balance sheet 5.0% the past 12 months.  Combined, the Fed, Bank of Japan and ECB will no longer be adding liquidity by the end of the year.

 

Positioning

Stocks are priced for perfection and investors are positioned as if the record 10-year bull market will go on indefinitely.  Retail investors cash levels, from TD Ameritrade to Schwab, are at all-time lows.

 

Economy

Since 2009 total worldwide debt increased by over 40%.  Within the U.S., since the end of 2008 student loan debt is up 127%, auto loan debt 57%, corporate debt 76%, and public debt 98%.  Margin debt has more than tripled.  There is currently $8 trillion in dollar-denominated debt outside the U.S. and currencies in 20 countries have declined by double digits against the U.S. dollar.  In other words, their interest costs are rising.  We’re already seeing cracks appear in countries like Argentina, Turkey and South Africa.  To this fragile situation, President Trump is risking a trade war.  Never a good idea, but the timing couldn’t be worse…

 

7th Reason

It’s October…

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