The S&P500 continues to defy the nay-sayers and is up about 4.7% since April 1st and up 11.05% YTD. Those that have the opinion this bull market is in the euphoric or final stage continue to point to valuations, market breadth and earnings. Many simply point to the age of the bull market which many believe started in March 2009 when the market bottomed during the previous bear market. Let’s start with the age of the bull market. It has been said before that bull markets do not die of old age. There has to be a change in the underlying fundamentals or a recession visible on the horizon.
From 1926 through March 2017, there have been nine bull markets. A bull market for this purpose is defined as a move from the lowest close reached after the market has fallen 20% or more, to the next market top. The average length of these bull markets has been nearly nine years with four lasting over twelve years. By comparison, the current bull market is about eight years old. It is also interesting to note that the shortest bear market which lasted only three months was between two bull markets that combined lasted over 24 years. Again, the age of the bull market, in our opinion, does not constitute a reason in and of itself to be concerned a bear market is on the horizon anytime soon.
Now let’s look at valuations, market breadth and earnings. Though the price to earnings ratio (P/E) is currently a little above the historical average, it is not significantly higher than the five and ten year average P/E even looking at it market sector by market sector. The final euphoric stage of a bull market is usually accompanied by significantly higher P/E ratios which become very excessive. The market will rise with either an expansion of P/E ratios or a rise in corporate earnings or both. At this time, valuations are not excessive and earnings are expected to rise as well. Corporate earnings are expected to grow over 11% next year which means the market would go up given the same P/E ratio. In the final stage of the bull market, one would expect prices relative to earnings to expand as well which would create the excess needed to believe the market would soon reverse course.
Market breadth is basically a measurement of the number of companies advancing relative to the number declining. It may also be broken down further to the number of companies hitting 52-week highs versus 52-week lows. Today many market doubters base their opinion on the market being led by too few stocks and often refer to the “FANG” stocks meaning Facebook, Amazon, Netflix and Google. In reality, the average S&P500 stock may be underperforming these names but, the average S&P500 stock ex-FANG is still up nearly 8% YTD.
Finally, many believe the Presidential agenda and its success or failure is what will drive the market for a while. A recent CNBC Fed Survey agreed with this thought in December last year with 82% assuming policy expectations was driving the rally while only 18% thought it was economic fundamentals and earnings. The survey done again in June 2017 showed nearly the opposite as 63% believed then that the market success was being helped by the latter and only 29% still thought that policy expectations was the driving force.
We have often said that the underlying fundamentals of earnings, interest rates and liquidity always win over time. In our opinion, these fundamentals continue to point to better times ahead. Though with a big picture approach, we do not try to predict short term market movements, we remain bullish intermediate to longer term.
Royal Fund Management, LLC
