Banks Becoming Bearish
The S&P 500 and broader markets continue to trade near record levels and investors remain optimistic that President Trump’s economic policies, tax cuts, and infrastructure spending will provide the U.S. economy with a much-needed jolt. But three of America’s biggest banks believe the markets have moved too far too fast; stocks are overvalued and are susceptible to a near-term sell-off.
Goldman Sachs noted recently that it’s been a year since the U.S. stock market experienced a 10% correction. The S&P 500 has advanced more than 20% over the last 12 months; roughly half of the gains have come since Donald Trump won the U.S. election in November. At the same time, the U.S. economy remains weak with corporate earnings estimates for 2017 falling by one percent. Investors hoping that President Trump will be good for corporate profits are getting ahead of themselves.1
Meanwhile, Citigroup believes investors should take profits if the rally continues to short the market. Why? By early March, stocks had already exceeded their full-year expectations. Citigroup warns that the current stock market rally has more to do with inflows and the covering of shorts than with investor exuberance.2
Lastly, analysts at JPMorgan say the downside risk to the S&P 500 is increasing. The S&P 500 hit the bank’s year-end price target of 2,400 on March 1, 2017. Despite the rally and strong investor sentiment, the bank has not raised its full-year guidance. In the near-term, the bank sees increasing risk of a sell-off.3
Are Stocks Significantly Overvalued?
Are equities overvalued and is the stock market primed for a correction? According to one of the most trusted measures of stock market value, they are. Developed by Nobel-winning economist Robert Shiller, the CAPE Ratio takes the S&P 500 and divides it by the average of 10 years’ worth of earnings.
The long-term average is around 16. The ratio is currently at 29.6 and suggests the S&P 500 is overvalued by 85%. What this means is that for every $1.00 in earnings a company makes, investors are willing to pay $29.60. The ratio has only been higher twice. In 1929, it was at 30. In 1999, before the dotcom crash, it was at 45.4
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Have stocks gotten ahead of themselves and are the vulnerable to a serious correction or crash? Investors can be impatient, and if corporate earnings and President Trump’s economic policies don’t deliver, confidence levels could plunge with investors running for the exits.
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- “Goldman Sachs Warns U.S. Stocks Are Now Reaching Peak Optimism,” Bloomberg, February 21, 2017; https://www.bloomberg.com/news/articles/2017-02-21/goldman-sachs-warns-u-s-stocks-are-now-reaching-peak-optimism.
- “Citigroup Analyst Says It’s Time To Sell,” ETF Daily News, March 6, 2017; http://etfdailynews.com/2017/03/06/citigroup-analyst-says-its-time-to-sell/.
- “JPM: “We See Increasing Risk Of Sell-Off In The Near Term,” ZeroHedge, March 6, 2017; http://www.zerohedge.com/news/2017-03-06/jpm-we-see-increasing-risk-sell-near-term.
- “Case Shiller P/E Ratio, Yale University, last accessed March 6, 2017; http://www.econ.yale.edu/~shiller/data.htm.