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Earl, very interesting info, as usual. In looking over the charts I
thought of a few things you might want to take into account in putting
together these charts.
The first potential problem I see is in using both S&P dividends and T-Bills
as inputs. Over the past few years there have been significant fundamental
changes that have made companies heavily favor stock appreciation over
dividends. More and more corporate officers are now compensated using stock
options. This gives them an enormous incentive to buy back outstanding
stock (in order to put the options "in the money") in lieu of increasing the
stock dividend. Second, the spread between the rate at which dividends are
taxed and the rate at which capital gains are taxed has increased. This
also gives companies an extra incentive to reward their stockholders with
price appreciation rather than increased dividends. Analyzing current
dividend yields relative to past yields can therefore be very misleading.
Having said this, I see no problem with using S&P earnings, and you seem to
have given that chart more emphasis.
The problem I see with using T-bill yields is two-fold. First, short term
interest rates are heavily influenced by the actions of the Fed, and
therefore don't necessarily represent the true sentiment of the free market.
Second (and closely related) is that T-Bills seem to be more and more of a
"business" vehicle rather than a long term investment vehicle. They are the
instrument of choice when people or companies are deciding what to do with
their money or are looking for a short term safe haven. However, long term
rates are much more reflective of the value investors are putting on bonds
relative to equities. Long term bonds also react to and incorporate
inflation expectations more accurately. For these reasons, I'd be very
interested in seeing your earnings yield ratio (EYR) chart using T-bonds
rather than bills. Any chance? :)
Lastly, even using these inputs shows something very interesting on the top
chart where you have marked the danger zones since 1968 with 7 red arrows.
If the arrows are closely examined, you notice that the DURATION of the
corrections following these EYR spikes has been consistently getting shorter
and shorter. I realize this is a log chart, so I'm not necessarily talking
about the magnitude of the drops, just the TIME it took to go from peak to
trough. In fact, the duration of the correction of the last spike in 1997
was so brief it barely registered on the chart.
It seems to me this trend sends a clear message to the LONG TERM investor
that trying to time the market using interest rates is rapidly becoming a
futile effort, and that one stands a greater risk of losing money by being
out of the market than by staying in it. I emphasize long term investor
because this info can still be very valuable to a short term trader, but
it's still nice to know what the masses might be thinking.
Thanks again for taking the time to present it, Earl.
Bruce
-----Original Message-----
From: Earl Adamy <eadamy@xxxxxxxxxx>
To: RealTraders Discussion Group <realtraders@xxxxxxxxxxxxxx>
Date: Sunday, December 27, 1998 2:43 PM
Subject: MKT S&P EYld/TBill Ratio et al
>I post one of these periodically when something worthy of note occurs. We
>just surpassed the July high in the S&P Earnings/TBill ratio. We have
>reached this lofty level only 3 times previously in the past 40 years
>(actually since my S&P earnings history begins in early 30's) and in each
>case a significant correction has followed. The alternatives would be
>another huge cut in interest rates (unlikely) or huge gains in S&P earnings
>for the quarter (also unlikely). Also of note is the ratio decline
following
>each time the ratio has crossed the "Extreme Danger" level - the latest
>decline is the only time that the ratio did not fall to the "Opportunity"
or
>"Extreme Opportunity" levels. Does all of this guarantee a sell-off? No,
but
>the odds are extremely high. Does it mean we should be shorting stocks? Not
>until we see some downward momentum. Does it mean that Buy and Hold is
>extremely risky? You bet!
>
>Other tidbits from my weekly chart review:
>
>1) My 10 week moving average of special short sales ratio indicates that
the
>NYSE specialists have continued to liquidate inventory into this rally and
>are averaging short positions at the highest levels in a decade. Specialist
>short sales reports are delayed two weeks.
>
>2) The transports have been unable to confirm the new highs in the
>industrials in spite of the lowest real fuel prices in nearly 50 years
>
>3) The Amex Broker/Dealer has lagged the S&P 500, however it has recently
>sprung back to life which could be bullish.
>
>4) The small caps still have not sprung to life to expand breadth as
>evidenced by daily and weekly a/d numbers as well as the Value Line Geo.
The
>Ru2000 futures shows a very interesting "W" price pattern with a double top
>in the top middle of the W and appears poised to breakout to upside -
either
>way, this bears watching as this has been a seasonally strong time for
small
>caps.
>
>5) Bonds should get a bounce in here, however bonds appear poised to (at a
>minimum) retest the November low of 124^23. More likely are declines to fib
>price objectives of 120^25 or 114^16.
>
>6) Recent chart patterns in bonds seem to be tracking the US$. The dollar
>appears to have put in a failure and top, however this won't be confirmed
>without a break below 9106 and a rally above 9681 would call the failure
>into question.
>
>Earl
>
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