The U.S. stock market’s solid gains off the bear-market low is auspicious. Bank of America research shows that 92% of the time after this happens, the market rises over the next year with an average gain of 9%. This offers no guarantee, but if I am overweight stocks as I am now, I’d rather have history on my side than not.
Next, employment remains strong, and it is not letting up. “The U.S. economy remains admirably resilient, and odds of a recession beginning this year are receding,” Moody’s Analytics economist Mark Zandi predicts. “The economy’s resilience is clearest in the job market. Job growth is steadfast at near 250,000 per month. It is difficult to envisage a recession without significant job losses.”
Moreover, stocks are not overvalued. While current valuations are not low, they rarely are during profits recessions. The reason is that we are several quarters into an earnings recession, and p/e ratios increase when earnings decline. The current 21 p/e on the S&P 500 SPX, +0.02% looks high, but multiples were higher during the Great Financial Crisis and the Covid recession selloff . Over the past 50 years, the average multiple on trough earnings has been 20.
The impact from rents will be changing soon. Leading indicators — the most recent leases — tell us the impact of rent on inflation will be coming down. As a result, overall U.S. inflation could be down to 3%-4% by this fall, Yardeni says. Keep in mind that historically after big inflation spikes, inflation comes down about as fast as it has gone up.
For me, when this gauge hits 4.0 it means to dial back on adding new positions. At 5.0 or above, it means to move to cash. At 2.72, it’s still far from the warning track. This tells us we have the requisite “wall of worry” in place to own stocks. Bull markets climb a wall of worry, according to market lore. In practice this means there are enough people to turn bullish and put money into stocks and drive prices higher.
The cyclical group that really jumps out as a buy is energy. It has not participated in the market rally and the sector looks historically cheap. Energy stocks trade at an average forward p/e multiple of 9.8, vs. an historical average of 16.8. Most of us want renewables to come along as fast as possible and replace fossil fuels. But that is going to take some time. Meanwhile, economic growth will support energy demand. So, energy stocks should move higher.
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