Last Update: May 16, 2022

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If a cyclical bear market is beginning given the difficult job that central banks have for the next few years, the longer-term bias has to be towards selling rallies and positioning portfolios as boring as they can be. Lower P/E stocks, more value and earnings quality makes sense for the next few years. We see sticky inflation building, which should be tough for most asset markets. Active rotation can payoff in an environment like this versus buy and hold where the uncertainty factor remains high. Expect volatility readings to remain elevated. There should be lots of two way opportunity to adjust portfolios. Long bond (duration) is getting interesting as an asset class above 3.00% on 10+ year bonds.


Risk Level: 65%

Valuations continue to improve as markets decline. We’d prefer valuations improving because earnings expectations are growing. Trouble is they as we head into a central bank generated recession. A soft landing is unlikely. Forward based expectations have yet to price in the slowing economy and rising inflation pressure that will curtail discretionary consumption. So while valuations have improved, they are a terrible timing indicator and are part of our model to frame longer-term expectations, which are improving relative to highs seen over the past year. Still somewhat cautious, but no longer concerned about a 20% + decline from here, since we’ve already seen it.

Enterprise Value to EBITDA

A reading about 60% historically means the average returns over the coming years will likely be modestly below average. Valuation metrics are not great timing indicators, but looks to frame longer-term expectations and magnitude of a correction when a catalyst develops. Enterprise value (EV) is the amount of debt plus equity capital a company uses less cash like holdings to generate free cash flow. Earning before interest taxes depreciation and amortization (EBITDA) has improved significantly over the past year while recent weakness in stocks and bonds has lowered EV. This has improved the ratio overall, but not yet to levels where it is compelling from a longer-term valuation bottom perspective. Relative to the 2018 FOMC induced decline, it’s more attractive.


A reading near 80% historically means the average returns over the coming years will likely be well below average. While the market is expensive historically, this metric suggests longer-term returns will be well below average and should not be used as a timing indicator, but adds to the cautionary environment. The revenue a company generates is less subject to manipulation (financialization) like earnings per share can be and can be a better valuation metric than comparisons to earnings. Many industries have higher margins, so price-to-sales is not a perfect guide. Nominal GDP looks to grow, so sales numbers are likely to grow over the next year.

Forward P/E

A reading near 40% historically means the average returns over the coming years may be slightly above average. While the forward P/E is below average, historically, this metric suggests longer-term returns couldl be above average, it should not be used as a timing indicator due to reliability of forward expectations. Earnings expectations are a key factor for market growth. Analysts are often too optimistic on forward expectations.Forward P/Es historically are 2 multiple points below trailing average. The historic average P/E for US large caps is about 16.5x earnings versus the current forward P/E of 17.68. Over the past month, 12-month forward EPS estimates have increased by 0.56%. Over the past 3 months, forward EPS estimates have increased by 2.25%. The rate of EPS change is slowing but still good relative to nominal GDP expectations.

Equity Risk Premium

A reading around 70% historically means the average returns over the coming year will likely be slightly below average. Overall, the ERP increased 28.4bps last week. The yield of the 30-year bond declined 14.7bps. The earnings yield of the S&P 500 increased 13.7bps. We see the 10-year yield peaking just above 3% in the coming months, we were suprised by the speed of the rise. With tax receipts plentiful, Treasury should not have too much trouble funding the QT roll off in the next few quarters. Massive dollars are in the reverse repo market, which could fund the trillion need this year. If not, the ERP should expand in this backdrop pushing asset values lower.


Risk Level: 61%

The cost of money and credit is still very stimulative, but only because the FOMC is well behind the curve. Forward market pricing is showing a high probability of a policy mistake with aggressive tightening being priced in to mid 2023 and then easing into 2024. NUTS, right? But that’s a fact based observation. The market is betting the FOMC puts us in a recession and has to start cutting rates late next year. Longer-term inflation expectations are ticking up too, but moderated last week. This will likely be troubling for asset markets if inflation remains sticky. We will not likely know this until mid 2023.

Slope of Yield Curve

A reading near 30% suggests a yield curve (3-months vs. 10-years) that is steeper than average over history, but is not restrictive. A normal sloped yield curve is healthy and is a positive business cycle factor. A curve getting flatter over time suggests financial conditions are tightening. The recent trend has been steeper. Last week, the 3M-10Y curve was 36.1bps flatter. The steepening of the curve seems to suggest that longer-term inflation expectations are increasing. The fact that Powell took more aggressive rate hikes off the table was initially cheered, but there was a clear re-think. We are on the alert for a peak in long yields in the coming weeks as inflation could be peaking, but will remain higher than the FOMC would like to see.

High Yield vs. Investment Grade Credit Spreads

Credit spreads are thought to be a leading indicator. At a reading around 40% is slightly wider than long-term averages, suggesting the risks are tilted a bit better than neutral, but it’s the trend that matters. Credit spreads are finally reacting to tighter financial conditions. The problem with the market is not credit related, as liquidity remains ample. Credit widening portends economic weakness, which we are closely monitoring. The hot inflation pressure is not as much a business cycle effect as it is a supply side issue. If credit spreads start to lead wider, we have bigger trouble. They should stabilize for now. Over the past month, HY-IG spreads are 76bps wider. Over the past 3 months, HY-IG spreads are 51bps wider. Momentum is increasing.

NY Fed Weekly Leading Indicators

Over the past week, the NY Fed weekly leading economic index increased. The trend over the past month is slowing at a faster pace. The recent trend suggests evidence of modest contraction. Growth challenges are significant without deficit driven stimulus. For more details see:
There are severe distortions in leading indicators due largely to the start stop nature of the COVID influence and massive start top stimulus. We are not paying much attention to leading indicators. Recent trends are pointing to contraction at the same time job growth is strong.

Real Yields & Inflation Expectations

Over the past week, real 10-Year Treasury yields declined -21.3bps. Nominal yields decreased -20.8bps, while long-term inflation expectations rose 0.5bps to 2.74%. Real monetary policy is tight relative to long-term expectations. Short-term inflation numbers remain extremely elevated, while longer-term market based inflation expectations are elevated relative to the range of the past decade. The FOMC has recognized they are way behind the inflation curve and that likely leads to a policy mistake. Inflation will likely moderate, but the new range may surprise at how sticky it is. We expect inflation to exceed targets for an extended period and geopolitics are making it way harder to avoid a hard landing.


Risk Level: 23%

We saw several signs that last week marked a tradable low. It appears that we have hit peak inflation and that should cool some of the panic. But we would not look for a sustainable rally, but rather another rally to sell. This bear market shoul dplay out until the Fed breaks the economy and the market prices in falling earnings and a Fed that will have a challenge executing their PUT plunge protection team.

5-Day Put/Call Ratio
Risk Level: 17%
The Put/Call ratio measures a degree of speculation and hedging in the options markets. A reading around 20% suggests a high degree of bearish protection is being traded. Last week, the average put volume declined 105 contracts per day while the average call volume declined 1,641 contracts per day. The strong rally off the March lows has ignited some call speculation, but the ecitement is fading.
Speculative Position S&P 500 Futures
Risk Level: 80%
Positions of speculators in the S&P 500 futures contracts offers a potential future source of supply or demand. Current readings are elevated, it’s not until the position gets to an extreme that it becomes a good contrary indication. As of May 10, S&P 500 E-mini speculators increased their net long position last week by 3,478.4 million dollars. Speculators have behaved very bullishly on the decline, suggesting lots of overhead supply to chew through. Earnings will need to be exceptional to overcome the Fed’s policy path.
Percentage Deviation from 200-Day Moving Average
Risk Level: 0%
The market only spends less than 30% of the time below the 200-day average. While this can denote a bearish trend, it most often coincides with a buying opportunity. It’s rare that the market falls this much below the 200-day average without a tradable bounce coming. The 50-day average recently crossed below the 200-day average and marked the recent low perfectly. It suggests rallies should be sold until the current anxiety has passed. The bias has shifted far more towards selling rallies for now despite the market behaviour as the trend lines crossed. The failure to hold above the 200-day on the recent rally is a significant negative signal. Rallies can happen, but likely fail to make higher highs.
AAII Bull vs. Bear Sentiment Spread
Risk Level: 4%
When the percentage of Bulls exceeds the percentage of Bears by a significant amount, we are likely much closer to a mark bottom than a top. Last week the percentage of bulls decreased -2.6% while the percentage of bears decreased 3.9%. Over the past month we have seen extremely bearish sentiment, which happens frequently in bear markets, but also sets up a high probability of a counter trend rally.
Seasonal Pattern (All Years) Since 1928
Risk Level: 42%
The 1-Month forward based return is slightly above average based on the 4-year presidential cycle model. The current factor is a modestly positive influence. The second year of the presidential cycle offers the most volatility and lowest returns on average of all years combined. With both a fiscal and monetary reversal in play, there is a strong catalyst for poor returns this year. We are over weighting seasonal factors this year.
Presidential Cycle (Current Year) Since 1928
Risk Level: 78%
The 1-Month forward based return is well below average based on the current year of the presidential cycle model.The second year of the presidential cycle typically is the worst of all. That tilts the bias a bit in favour of being more cautious when seasonal factors are weakest. That expectation is historically seen between March and September.
Current vs. Average Volatility (VIX)
Risk Level: 32%
Last week, volatility was -4.4% below the previous week. It was +11.2% compared to it’s 50-day average. The 50-day average is 32.5% above it’s long term trend. in the past few weeks we moved from extreme pessimism to complacency levels. It speaks to the high uncertainty factor and why volatility levels overall are elevated compared to longer-term averages in past cycles. We expect more volatility during the tightening cycle. Policy mistake is a huge probability.
Current vs. Future Volatility (VIX)
Risk Level: 21%
Last week, current volatility was -6.5% below the previous week. Future volatility was -1.6% below the previous week. The ratio of current volatility to future volatility is now close to inverted. Volatility levels remain elevated. We expect this to continue as investors debate central banks taking the punchbowl away while waying the risks of WWIII.
Percentage of S&P 500 Holdings Above 50-Day Average
Risk Level: 2%
The percentage of stocks in the S&P 500 above their own 50-Day averages is 21.5%, which is 6.2% below the previous week. It is 13.1% below the average of the past month. Tactically, extremely close to a strong oversold buy signal. It’s now been a few months since the market made its all-time high and so the opportunity for more stocks to break trend has developed. The 50-day average will cross below the 200-day average this week. Look for an oversold rally soon, but a move to new highs is unlikely until the reasons for the market corrections have been fully priced in. That could take a while given the rate hike cycle just started.
Percentage of S&P 500 Holdings Above 200-Day Average
Risk Level: 2%
The percentage of stocks in the S&P 500 above their own 200-Day averages is 31.9%, which is 2.8% below the previous week. It is 7.2% below the average of the past month. Statistically, breadth readings are extremely oversold and odds of a rally are high once a catalyst develops. At this point we need a friendly FOMC and a ceasefire in the Russia-Ukraine war.
Breadth-McClellan Summation Index
Risk Level: 0%
The breadth of the market is at extreme. This level of oversold conditions set the market up for a rally. Overhead divergences suggests that a rally to new highs is unlikely. But there should be enough support buying dips as long as earnings fundamentals hold up.
Overbought-Oversold 13-Week Relative Strength Index
Risk Level: 0%
The 13-week RSI is extremely week 33. It’s rare the weekly falls below 30, so current readings are considered oversold for a bounce. The extreme seen last week coupled with the bullish weekly chart pattern suggest decent bounce potential. This is likely “a” bottom, but probably not the bottom.