A reading above 90% historically means the average returns over the coming years will likely be well below average. While the market is expensive historically, this metric suggests returns will be well below average and should not be used as a timing indicator, but adds to the cautionary environment. Enterprise value, is the sum of debt and equity capital a company uses less cash like holdings on the balance sheet compared to earnings before interest, taxes, depreciating and amortization. In other words, how much capital is used to generate free cash flow.

A reading near or at 100% historically means the average returns over the coming years will likely be well below average. While the market is expensive historically, this metric suggests 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.

A reading near 60% historically means the average returns over the coming years may be a little below average. While the forward P/E is slight above average, historically, this metric suggests returns will likely be close to average. Forward PEs should not be used as a timing indicator, but rather a guide to current longer term expectations. Earnings expectations are a key factor for longer-term market growth. 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 21.35. Over the past 3-months forward EPS estimates have decreased by -2.08%. Over the past month, forward EPS estimates have increased by 0.27%. The rate of EPS change is rising.

A reading near 90% historically means the average returns over the coming years will likely be well below average. While the market is expensive historically, this metric suggests returns will be well below average and should not be used as a timing indicator, but adds to the cautionary environment. The equity risk premium is the discount factor investors are paying for stocks above the risk free rate. The inverse of the P/E called the earnings yield plus the long-term government yield is a reasonable estimate. Overall, the ERP increased 6.2bps last week. The yield of the 30-year bond increased 1.2bps. The earnings yield of the S&P 500 increased 7.3bps. The tightening of financial conditions is likely to continue in the short run. But we are very close to fully pricing in the terminal rate of Fed funds and weakening of the economy and earnings should start to balance out. Markets remain on the expensive side, but it’s mostly because of higher rates.

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 2.9bps steeper. The 12-Month forward expectation for SOFR is 3.31% which is pricing in 102bps of rate cuts. Over the past week, rates changed by -14bps and by -14bps over the past month.

At a reading near 80%, credit spreads are near extreme low levels and suggest easy financial conditions and a strong economic outlook ahead. Investors are not likely adequatly compensated for credit risks if a shock develops, but this is never a moment in time, but a process over weeks or months. Narrow credit spreads correlate with high business cycle risk when a shock develops. The yield-to-worst (maturity) for junk bonds is 7.20%, which is -0.4 standard deviations below average. The FOMC and other central banks are reducing liquidity and e expect them to maintain tighter financial conditions than equity markets are pricing for an extended period. Looking out, we should expect tighter financial conditions and wider credit spreads until the economy troughs. Over the past month, HY-IG spreads are -17bps narrower. Over the past 3 months, HY-IG spreads are -3bps narrower. Momentum is fading.

Over the past week, the NY Fed weekly leading economic index slowed. 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: https://www.newyorkfed.org/research/policy/weekly-economic-index#/interactive We are now past the stimulative phase of the cycle and looking ahead, quantitative tightening (QT) will likely provide a major headwind for risk premiums. The labour market remains the stickiest part of the core inflation push with real assets showing signs of deflation.

Over the past week, real 10-Year Treasury yields increased 1.3bps. Nominal yields increased 4.2bps, while long-term inflation expectations rose 2.8bps to 2.46%. Real monetary policy is maximum 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. Based on recent curve moves, the market has likely priced in more tightening than the FOMC actually will need to do given increasing odds of a recession.