Bull Stock Market Talk Is Premature

A paused Fed, a rising stock market and favorable economic reports are producing a return of stock market optimism. “Bull market” is becoming a common description. So, is it time to buy?

According to the latest weekly Investors Intelligence report, 50% of investment newsletter advisers are bullish, while 31% say, “correction coming, so wait to buy.” The remaining 19%? Bearish – a low level that is in the bottom range normally seen in a heady bull market.

Accompanying such readings are the usual bullish articles, analyses and recommendations. A good example is this CNBC piece (Friday, June 30): “Most investors believe we are in a new bull market and there will be no recession in 2023.”

The interesting point in the CNBC survey is that the respondents evidently were limited to two, on/off, yea/nay, bull/bear picks. Not only are there grades of bullishness and bearishness, there is a wide swath of middle ground. Call it a correction, neutral, meandering or vacillating period. The point is the stock market has regularly spent a lot of time spinning its wheels.

In such periods, there is nothing wrong with being committed to a portfolio, staying on the sidelines or riding in the middle. It’s the committed bullish or bearish attitude that gets investors into trouble, and bullishness is the tilt of the day. However, the economy, financial system and capital markets have some months to go and many hurdles to jump before we’re out of this uncertain period’s fog.

The optimism has sprung from expanding expectations: of declining inflation, lower interest rates, a growing economy, and rising business earnings. That’s okay, but it is only one scenario. The uncertainties (AKA risks) could undermine or reverse those positive visions.

The investment return hurdle is much higher

Today’s environment of over-5% safe interest income and about-5% inflation increases expected returns from risk-based investment. For example, a long-term view of 6% real (inflation-adjusted) return from the U.S. stock market means today’s expectations should be about 11%.

Another way of viewing today’s investment decision-making is that investors have a 5% return floor after years of near-0% interest return. In the past, the 5% level has been acceptable to many.

Another consideration is that the S&P 500’s price/earnings (P/E) ratio is back up to 25 times. That means the earnings yield (E/P) is 4%, the same level it sold at when interest rates were near-0%. While expectations of earnings turning back up again could support such a valuation level, there is not any real support for such a notion now except hope and optimism.

The bottom line: Stocks are not in a bull market

The primary reason cited for saying this is a “new bull market” is that the S&P 500 has risen about 20% from its 2022 bottom. The problem with that notion is that history is filled with such reactionary moves that led nowhere.

Also, the drivers are the same ol’ / same ol’. Sure, there is hope that AI (artificial intelligence) will produce growth, but many (most) of the market movers are yesterday’s winners. Repetition never happens in a new bull market. Worse, that likely means there is another shakeout coming that finally kills those past fads and favorites.

What could trigger a downside reversal? Well, the second quarter earnings report period begins in two weeks, during which the Fed will have its July FOMC meeting, faced with stubborn inflation and an apparently healthy economy with no recession in sight.