|Editor’s Note: Below, we’re talking about the infamous “Wall of Worry.” More importantly, you’ll see everything you need to do to get over it. But I’ll be the first to admit that it’s been tough, and 2020 might be even steeper. Though that hasn’t been – and doesn’t look to be – a problem for my friend and colleague, Tom Gentile, who’s unraveling a new project of his in the next few days. I’ll be back on Sunday with the actionable steps you can take to take advantage of this, so stay tuned.|
One of my favorite reads, Business Insider, threw me for a loop this week with an article titled, “‘Signs of excess are building’: 4 Wall Street giants explain why the stock market’s rally may have gone too far”.
Wall Street analysts are always worried about something, whether it’s the U.S.-China trade war, Iran’s saber-rattling, or the coronavirus spreading.
But, when big bank gurus are worried about “internals” – metrics surrounding the stocks that make up the market – maybe it’s time to worry.
Here’s What JPMorgan, Goldman Sachs, Bank of America, and Société Générale Analysts Are Saying
The BI article posted on January 21, 2020, starts out saying what’s “At issue for many of them is that the rally has run far ahead of profit growth and lifted the ratios of stock prices to profits to levels rarely seen during this bull-market run.”
The first stroke of bad news in the article is that “A composite gauge of 34 valuation metrics compiled by RBC Capital Markets recently broke through its highest level of this nine-year bull market.”
JPMorgan’s head of cross-asset fundamental strategy, John Normand, says, “This so-called excess is not exclusive to stocks: Investor positioning across major asset classes, including equities and fixed income, is at levels associated with market corrections.”
Normand sees “multiple risks that could stop the rally in its tracks,” and warns about potential drawdowns possibly causing “a material change in portfolio allocation or hedges.”
Goldman Sachs’ chief U.S. equity strategist, David Kostin, “expects fourth-quarter earnings to be lackluster after three preceding periods of declines last year.”
Bank of America’s chief equity technical market strategist, Stephen Suttmeier, worries about February being a seasonally weaker month for the S&P 500. His analysis shows “Since 1928, the index has averaged a 3.3% gain from November through January but -0.02% in February. This means the rally may pause after a three-month stretch that has delivered above-average gains.”
Suttmeier’s also worried about the put-call ratio, which compares traders’ bets for higher prices with their wagers for lower prices, being at its lowest and “most complacent” level since 2012. That highlights how “bullish bets disproportionately outnumber bearish ones.”
And, finally, Andrew Lapthorne, Société Générale’s head of quantitative-equity research, worries “that while stock prices have climbed, earnings growth has been in decline since the first quarter of 2019.”
Bloomberg data also reveals, “the ratio of stock prices to earnings forecast 12 months from now has spiked to its highest level since 2002.”
Lapthorne’s concerned that growth stocks, the big technology companies leading market indexes higher, have jacked-up price-to-earnings ratios “seen during only eight months of a three-decade span.”
Lastly, the quant researcher notes, “The mismatch is not only evident in US stocks: The average MSCI World Index stock has gained 26% over the past year, but the average change in forward earnings-per-share expectations is 1.5%.”
All those worthwhile worrying points are what threw me for a loop. And they’re not the only big names starting to worry about market “internals.”
So…Should You Worry?
Yes, you should.
I always worry. That’s what a career trading and investing will do to you. Make you a worrier.
But, worrying isn’t a reason to act.
It’s time to act when worrying turns into profit-taking, which takes benchmark indexes down to their most recent “support levels” and tests them.
That’s when it’s time to sit up and take notice. That’s when it’s time to dust off your protect-your-profits playbook and get ready to digest more metrics and try and feel out the collective psychology of other investors, what they’re likely worried about, what levels they might be looking at, and what they may do or not do.
We’re not anywhere near support levels with the Dow Jones Industrials at 29,143 and the Nasdaq Composite at 9,396.
If the Dow falls to its first support at 28,500, that would be a 2.2% drop. Not pretty, but certainly not ugly.
The Dow has strong support at 28,000, which would be just shy of a 4% move down. Again, not fun, but not at all frightening considering how much profitability is still baked into the market.
The Nasdaq Composite has good support at $9,000, which would be a tad more than 4% down from here.
So, worry all you want. Just don’t rush for the exits too soon.
And, if you take your worrying as a good reason to get out, then go ahead and take your profits. There’s never anything ever wrong with that, except maybe paying taxes on those gains.
Just make sure not to let the worrying keep you from getting back in.
When should you get back in if you get out?
That’s easy. When you’re most worried, when everybody else is most worried, that’s the time to get back in.