As expected, trading today was mostly a repeat of yesterday's action. Soft to unchanged in the morning, sideways for most of the afternoon, and buying into the close. Participation continues to be light, thus leaving the program traders to swing the market any way they choose. This lack of interest seemed to permeate most markets today. Treasuries were slightly lower, but range-bound for a majority of the session. The energy complex was mostly unchanged. Even the newly volatile currency markets were bereft of much action. Just a lazy summer day all the way around.
It's days like this that make trading these markets all the more difficult, especially for the retail investor. As the efficient markets hypothesis (in its strictest form) would have us believe, markets are always correct in their pricing of their respective asset. As such, the uptick in most markets over the course of the past two weeks would, therefore, suggest that good things are headed our way in terms of corporate earnings and global macroeconomic performance. But if this theory is to be believed (I personally have never accepted its premise), at a minimum, participation among the various markets needs to be robust, or at least in-line with historical norms. If this is not the case, the mosaic of information provided by the various market participants that cause the price discovery process to fully reflect all news and expectations is incomplete. Therefore, the price quotes we get on our computer screens are not nearly as predictive as the theory would imply.
This is the time when you have to take a step back and look at what the fundamentals and technical are telling you about what's to come. They will provide the best context from which to base your investment decisions. In my opinion, it's times like these that the most attractive opportunities arise since the lack of investor participation often cause markets to move to price levels that are out of kilter with reality, both on the upside as well as the down. As a result, if we are diligent in our research and keen to watching what the price action is telling us, profitable trades can and will result.
This brings me to the second leg of my fundamentally bearish outlook for equities. They are far from cheap. According to Standard & Poors, the S&P 500 currently sports a trailing twelve month P/E ratio of 15.72. While certainly more attractive than what was seen just a couple of years ago, this is merely in-line with historical norms. When the dot come bubble years are excluded, this average multiple drops even more, further decreasing the attractiveness of equities on a purely fundamental basis. Of course, this is the point in the conversation when most people will say something to effect of, "Yes, the market's trailing P/E is a bit high, but it's a reflection of the past and the market is always forward looking. Look at the analyst estimates for earnings over the next year and then look at the multiple." On this basis, the S&P 500's P/E stands at 12.34. More attractive to be sure, but there's a fundamental assumption that coincides with using this logic: analysts are accurate in estimating earnings. Without delving into the debate over how accurate analyst estimates really are, let me just say that, in general, I prefer to make my judgments of value on raw data rather than a subjective estimate (no matter how quantitative). As such, I'll look to reported earnings (Yes, I know even they are manipulated. But at least I know this from the outset and have the ability to look inside the numbers. This is rarely the case with earnings estimates.). Until these numbers turn around, (along with Price/Sales, Price/Book, and a few other metrics) I'll remain skeptical of a sustainable rally. My focus on reported earnings may result in my missing the early part of any rally that results from a pick up in corporate profits, but, in my opinion, the cost of not participating in the early part of the rally is far outweighed by the risk of jumping in too early.
And with that the first week of FT is in the can. I think we're off to a good start. As with anything, I know the quality of my posts will improve with time. To that end, your comments and suggestions are always appreciated, so don't hesitate to let me know what you think. Until next week......
-JMO
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