Thursday, June 18, 2009

Equities Not Really Expensive

Came across the highly respected Bank Credit Analyst report, and they mentioned the state of equities breakout. BCA looks at financial capital flows to look at historical trends and anomalies.

The S&P 500 climbed above its 200-day moving average last week. The psychological impact of slicing through this technical barrier could convert many bears to a more bullish persuasion. At this point in past cycles, sentiment had usually become more optimistic than is currently the case. It is remarkable that after a nearly 50% rise in share prices from the low, the number of bulls in the trading pits remains so low. Consequently, there are good odds that the index will continue to grind higher as economic confidence is slowly restored and investor conviction in a sustained profit recovery climbs. Still, it is important to keep in mind that this cycle is very different because the U.S. is in a balance sheet recession and suffers from questionable asset quality, rather than an income statement problem stemming from higher interest rates. In terms of economic variables, only the ISM new orders index is following a typical post-bear market rally path. Employment conditions are worse (albeit layoff announcements have rolled over and the pace of job shedding has slowed) and house prices are much weaker. This reflects the unique nature of the downturn and overall financial deleveraging.

Bottom line: Equities have more upside, although the recovery may be more muted than in past cycles and more narrowly-based.

p/s photo: Jun Ji Hyun

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