Market Indicators & Strategy Report June 1, 2015






Our Major Market Indicators slipped back into neutral territory this week. Over the last six weeks the indicators have seesawed back and forth between neutral and bullish, and this week fell to 54.83 from the prior week’s 60.00. The S&P 500 ended this past week at 2107.39, up 2.36% year-to-date. Similarly, the Dow Jones Industrials were up 1.05%, the NASDAQ was up 7.0%, and the Russell 2000 small cap index was up 3.47%, year-to-date. Below, the weekly graph of our Major Market Indicators shows the trend since May of 2014.



The market sentiment indicators score as bearish. Since we use a mostly contrarian judgment on sentiment; a bullish behavior by market participants registers as bearish. The Volatility indicators (VIX and VXN) stood at week’s end at 13.84 and 14.75; implied volatility is low. We score VIX/VXN at greater than 20 as bullish. The chart below shows the high-low range for the VIX for the past 25 years, along with the average VIX for the year. The ARMS index on the NYSE and NASDAQ (1.14 and 0.96) is still too low to indicate an oversold position. The confidence index, the index of high-grade bonds yield vs. intermediate grade bonds yield (3.49%/4.58%) produces a ratio of 76.2%, indicative of too narrow a quality spread. Finally, the Consensus Index and the Market Vane Index are both running too optimistically, a further bearish sign.

Annual high-Low Range for the VIX
Source: Standard and Poors Corporation


There are some bullish sentiment indicators. The Put-Call ratio on the CBOE ended the week at 64/100, which registers as bullish, while the Put-Call on the S&P 1000 was also bullish at 148/100. The TIM Group Market Sentiment indicator moved into the bullish range at 49.6%. Finally, the short ratio on both the NYSE and the NASDAQ were bullish, at 4.70 and 4.29 days to cover respectively. All these factors were positive contributions to the score of sentiment indicators for this week.

Overall, only five-twelfths of our market sentiment score weight is in the bullish range, so by definition we are calling sentiment bearish in the aggregate. 



Our technical indicators score 8 out of 15 indicators bullish this week. The bullish scoring came from the indexes we score trading above their 200 day moving average. All the indexes we track are above their 200 day average at week’s end: The S&P 500, DJIA, NASDAQ Composite, the NYSE Composite, the Russell 1000 equal weight ETF (EWRI) and the Russell 2000 equal weight ETF (EWRS) are all above their respective 200 day moving average.

On the bearish side of the ledger, the ratio of new highs to new lows was 1.23, and the advance/decline volume ratios on the NYSE and the NASDAQ are both out of the bullish range, at 0.61 and 0.89, respectively. We also tracked bearish readings from the advance/decline ratio of the number of stock issues traded, and in the week the NYSE ratio fell to 0.43 (965 issues advanced, 2259 declined), and on the NASDAQ the ratio fell to 0.72 (1209 issues advanced and 1683 declined). We score the 10 day moving average of up volume vs. down volume in the NYSE, and this stood at a 0.71 ratio, while the same indicator for the NASDAQ was a 1.29 ratio.  All these advance/decline indicators represent bearish readings. To sum up the technical picture, the weight for the positives outweighed the negatives, so technical indicators are bullish.


Our liquidity indicators are bullish. Money market funds balances are over 10.3% of the market cap of equities, which provides buying power to support stock prices, a bullish score. On the other hand, customer credit balances at brokerages stood at only 27% of margin debt at last reading (April), a low level and a bearish score. In a sharp sell-off, customers either have to post more cash to bring their margin account above the minimum maintenance threshold, or margined stocks will be sold to meet the cash call. This low cash level implies increased risk of customers having to meet margin calls with stock sales rather than posting more cash.

Tipping the balance to the positive was our cumulative market liquidity calculation for the trailing four weeks. Total flows into the market as calculated are registering a bullish inflow. Mutual funds have seen outflows over the past four weeks, with a net ($12.55) billion withdrawn for the four weeks. The corporate acquisition market contributed $81.7 billion of cash flow in the trailing four weeks. We count only the cash component of M&A deals as announced. The big contributors these last four weeks were the acquisition of Pall Corp (PALL), by Danaher (DHR) for $13.8 billion, Verizon buying AOL at $4.4 billion, CVS Health buying Omnicare for $10.4 billion, Charter Communications buying Time Warner Cable for $28.2 billion cash component, and Avago buying Broadcom for $16.3 billion. The Time Warner and Broadcom cash component calculations are an estimate; these are complex deals with elections yet to be made by shareholders influencing the final cash payment by the acquirer.

Announced stock buybacks have been large these last four weeks: $37.85 billion total buyback authorizations announced. Significant buyback announcements were made by Lyondell Basel ($3.9 billion), Biogen ($2.0 billion), Precision Cast Parts ($2.0 billion), American Express ($8.4 billion), Delta Airlines ($5.0 billion), and Marsh and McLennan ($2.0 billion). Market participants are all acutely aware that buybacks have been a critical component to market liquidity over recent years, and our calculation confirms more buybacks are on the way.

IPO activity was muted theses recent weeks, with only $22.7 billion of new market capitalization added to the market for the trailing four weeks. IN fact we saw no new issues this past week. Major IPOs in this trailing period came from the energy sector:  EQT GP Holdings (EQGP), and Tallgrass Energy GP LP (TEGP).

The chart below shows the number of IPO pricings over the last decade. We reached a ten-year high in 2014, but so far in 2015 we are down vs. last year:  just 69 IPO pricings vs. 115, year-to-date.  


YTD Prior Yr. Current Yr. % Change
5/31 115 69 -40%

Secondary stocks offerings have slowed, with only $7.7 billion in the trailing four weeks.  Insider selling pulled $7.8 billion of cash out of investor hands in the past four weeks.

We calculate cash inflows to domestically focused equity hedge funds at a negative outflow of approximately ($0.24) billion in April. During April we believe the predominance of the flows went to non-equity strategies. Given the relative secrecy of hedge funds this calculation will always be a rough approximation, but we are applying our methodology on a consistent basis, month-to-month.

Overall, we count up a positive net inflow of liquidity into the domestic market of approximately $68.62 billion for the past four weeks, which is more than sufficient to warrant a bullish score. Combined with the other factors above we arrive at a bullish view on liquidity.


Our valuation indicators rank at a neutral level this week. Our fair value target for the S&P 500 is 2616, representing a 24.1% upside from the close on May 29th. The target uses a 21.8x multiple applied to 2015’s estimated operating earnings of 119.82. Our fair value target multiple is arrived at using an intermediate grade bond yield rather than the ten year Treasury bond, due to the artificiality created by Quantitative Easing. The S&P 500 is trading at 17.7 times the trailing four quarters operating earnings. This is above an historical norm of 15.5 times operating earnings. The S&P 500 is now trading at 17.6x 2015E and 15.7x 2016E. The upside to the fair value target is sufficient to rate bullish.  So too is the ratio of the S&P’s earnings yield vs. the Single-A 10-year bond yield.

Those bullish factors are offset by some bearish indicators.  Compared to GDP the market is at a 43.1% premium. This past week the government released the second look at Q1:15’s GDP.  Chain weighted real GDP was estimated to be down (0.7%) in Q1, a result that has received a lot of attention. On a sequential basis, nominal GDP was also negative – we’ll comment on that below.

Small cap stocks, as judged by comparing the T Rowe Price New Horizons Fund to the S&P 500 are not cheap, at a 1.72 times ratio. However, they look a lot cheaper if we substitute the P/E of the Russell 2000 – 1.27x, or the equal-weighted Russell 2000 ETF – 1.02x.

We estimate the total domestic market capitalization is trading at 101% of replacement cost of the asset base of non-farm, non-financial corporate businesses. By this metric, our version of Tobin’s q, stocks are slightly cheap. Since this is (ever so slightly) greater than 100% of replacement cost we score this a bearish indicator. In recent weeks this indicator has toggled back and forth between bearish and bullish.

We acknowledge there is no shortage of pundits declaring “the market is expensive”.  Our methodology is clearly different. The bond yield used above to drive the valuation target allows for a higher theoretical target for the S&P 500. However, our scoring of valuation is reduced as the market approaches this target. Overall, valuations are neutral, with bullish indicators equal to bearish indicators.


The MMI score for earnings momentum is bearish this week. The earnings season for the first quarter 2015 positive to negative ratio of earnings surprises is 2.95x, a bearish score. Not surprisingly, reported earnings are coming in ahead of forecast, but that is normal and expected each quarter, so we set the bar somewhat high in evaluating the earnings surprise ratio.

Q1:2015 earnings growth is currently estimated at a positive growth rate of 0.7%, vs. (0.4%) at April 30th, a welcome sign, but down from the positive +4.3% estimate carried as recently as December 31st.  Earnings momentum on a forward basis is showing deterioration. Q2:2015 earnings are currently estimated at a growth rate of negative (4.4%) compared to (3.9%) on April 20th. Earnings expectations the full years 2015 and 2016 continue to decline: 2015E earnings are now projected by the street at a positive growth rate of 1.7% vs. 1.8% at the end of April. 2016 estimates have come down to a growth rate 12.0% growth vs. 12.2% at 4/30/15.

On a PEG ratio (P/E to growth rate) basis S&P earnings still look this side of cheap, at a PEG of only 2.36 times, compared to a longer term average of 2.58. Looking at small cap stocks, the Russell 2000 trailing P/E ex: negative earnings were 22.5x at 4/30/15, vs. a five year eps growth rate of 13.37%, implying a PEG of 1.68 times.

Notice we compare earnings growth in terms of its change to a recent anchor – April month end in this case. We’re scoring recent changes in earnings expectations because we infer the market is taking cues off of the latest directional change (the second derivative). Thus, overall earnings momentum now scores bearish.



Although the Federal Reserve continue to tease the markets that it wants to begin raising short term interest rates, it has yet to pull the trigger, and has not raised its Fed Funds target. Current policy is to hold the overnight Fed funds rate down at zero to 25 basis points. Yet the FOMC is careful to continue to claim its decision is “data dependent”.

Our excess liquidity indicator is bullish at 400 basis points.  This means the Fed is providing four percent more liquidity than the current nominal GDP growth rate. This figure takes into account the decreased velocity of money in recent periods.  We arrive at this figure by subtracting the annual percent change in velocity from the year over year percent change in M2 money supply. Then we subtract the most recent quarter’s sequential percentage change in nominal GDP. We note that the second estimate for Q1:2015 GDP came out this past week and it showed a decrease in nominal GDP from Q4:14 to Q1:15, despite a continued flow of new money into the economy over the past year. Is monetary policy pushing on a wet noodle of a string?

The Treasury yield curve is accommodative to growth. The spread between the ten –year and one-year rates is about 1.89%, a positively sloped yield curve, and we score this bullish.

Junk bonds are pricing at relatively tight yields vs. historical patterns. Using the HYG fund as a proxy, the yield-to-maturity of that fund stood at 5.46% this week and the spread vs. 10 year Treasuries stands at 3.34%, and this is not bullish.

Will the Federal Reserve continue to support asset prices with incredibly easy money?  The Fed has warned it will begin raising rates, yet that requires a sustainable recovery as well as the long-discussed two-percent inflation objective being met. As in prior reports, we offer the below chart of the breakeven spread between 10 year T-bonds and 10 year Treasury TIPS, which stood at 180 basis points on May 28th. The spread has come off its bottom but is well below the 2.18% historical average, as well as below the Fed’s 2% inflation target. This chart’s decline from last July to early January represents the market’s expectation of decreased inflation, which would seem to work in favor of keeping the Fed Funds target at its current near-zero level. However, its move off the bottom may bolster the Fed’s courage to raise interest rates sometime this year.



In summary, our MMI score sits in neutral territory at the end of last week.  Technical, liquidity, and monetary policy market indicators scored bullish, while market sentiment and earnings momentum indicators score bearish and valuation neutral.


Greg Eisen
Singular Research Analyst and Market Strategist