David Rosenberg points out two important observations that go to the heart of what has been propping up the market for so long – cheap, abundant liquidity. As Rosie shows, both Money Of Zero Maturity (MZM) and M2 have now officially rolled over: “The liquidity backdrop is becoming less alluring — MZM has declined YoY for the first time in 15 years and the trend in M2 is down to a mere 1.5% from 10% when the bear market rally began in March 2009.”
And while Rosenberg is cautious in saying that equities are “overvalued by more than 20% on a normalized Shiller P/E ratio basis” the real stunner emerges when one considers just how mispriced the market is based on a combination of Q ratio and the CAPE index. According to economist Andrew Smithers, equities are about 50% rich currently, which should be at least a little concerning to all the electronic mountain of worry climbers.
Here is Smithers’ commentary on why the market, at least according to just these two metrics, is fairly valued at about 600 on the S&P. Once the algos realize someone will have to buy everything when everyone goes to sell mode (read: a gentle spike in volume), and that someone does not exist, this target will be promptly revisited.
With the publication of the Flow of Funds data up to the end of 2009 (on 11th March 2010) we have updated our calculations for q and CAPE, which show very little change from our previous calculations.
Non-financial companies, including both quoted and unquoted, were 52% overvalued according to q at the end of 2009. Net worth is virtually unchanged from Q3 to Q4. Domestic net worth fell through dividends ($83 bn.) plus net equity buy-backs ($95 bn.) being greater than net domestic profits after tax ($164 bn.), but this was offset by some small upward revisions to asset values. There was a small increase in the value of US foreign investment abroad ($27bn.), but this was less than the amount of foreign earnings retained abroad, probably due to currency adjustments.
The listed companies in the S&P 500 index, which include financials, were 50% overvalued according to our calculations for CAPE, based on the data from Professor Robert Shiller’s website. (It should be noted that we use geometric rather than arithmetic means in our calculations.)
Data for our calculations of q are taken for 1900 to 1952 from Measures of Stock Market Value and Returns for the Non-financial Corporate Sector 1900 – 2002 by Stephen Wright published in the Review of Income and Wealth (2004) and for 1952 to 2009 from the Flow of Funds Accounts for the United States (“Z1”) published by the Federal Reserve. Data for our calculations of CAPE are take from the data published on Robert Shiller’s website.
And yet computers ignore everything, as the only dominant signal is If Fed Not Tightening Then Buy. No Ben, there is no spoon or bubble.
Some additional observations on the bull market from Rosenberg:
- India just raised rates unexpectedly (ahead of its quarterly policy meeting) by 25bps to 5.0% on the repo rate to combat an inflation rate that has accelerated to a 16-month high.
- Greece is not yet out of the woods — going to the IMF will be a very bearish signal for the euro. Moreover, 61% of the German public opposes a Greece bailout, only 20% are supportive and another survey shows 40% of Germans would welcome an exit from the Eurozone, for more see page 4 of today’s FT.
- The U.S. is pressuring China to revalue even though China’s trade surplus has all but vanished. Meanwhile, the Peoples Bank of China continues to tighten overall credit conditions, having mopped up $31 billion in liquidity from last week’s open market operations (hence the nosedive in commodity prices to round out the week).
- At least one BoE policymaker has raised the specter of a double dip recession (10-year Gilts very quietly have rallied to their low point of the year — breaking below the 4% mark). All of this uncertainty is showing through in a firmer tone to the U.S. dollar, which therefore eliminates a very important crutch to the U.S. profits recovery.
It’s amazing that so many pundits are still talking as if we are still in the bear market rally because the S&P 500 has managed to fractionally take out the interim January high, when in fact, at 1,160, it has really done little more than range trade since the middle of October. That’s really five months of basically nothing.
And, the notion that there is really anything beyond a statistical bounce in the data over the past year in the aftermath of bank bailouts should be put to rest after you read the article about New York City on the front page of the Saturday NYT showing that the number of people living on the streets soared 34% in the past twelve months (New York Cites Spike in People Living In Street). The technical recession may well have ended but the depression is ongoing.
Also it is refreshing that Rosenberg shares our view on the consumer “resilience” as a function almost purely of extreme refunds.
WHY THE CONSUMER IS HANGING IN
First, as we mentioned last week, strategic mortgage defaults have added a full percent to consumer spending as delinquent homeowners divert their monthly payments towards discretionary expenditures. Remember, the villain banks have no recourse and it is no longer a shame but somehow fashionable to be behind on your mortgage obligations. Add to that the juicy tax refunds (courtesy of last year’s fiscal package) — up 10% or $206 per filer to a record average of $3,038 (recall that the Recovery Act provided a $400 tax credit for low-income earners).
Lastly, for our Canadian readers, Rosie discusses the Canadian bubble, referencing a paper posted on Zero Hedge by Alexandre Pestov.
Go have a read of the paper by Alexandre Pestov for the Schulich School of Business (The Elusive Canadian Housing Bubble — February 2010) and draw your own conclusions. The combination of extremely lax CMHC guidelines over the past three years coupled with ultra-low interest rates have triggered a housing mania in Canada that rivals what we saw state-side from 2003 to 2007. Now the Bank of Canada is on the precipice of raising rates, and if the consensus and money markets are correct, then the wave of borrowers that opted for short-term mortgages are going to be paying the proverbial piper in coming quarters.
