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Stocks Are Listening


Corporate bond spreads remain unfazed and continue to be stable to improving. Does this mean stock prices should continue to rise? I think sometimes yes and sometimes depends greatly on other factors.

In this sense I view corporate bonds spreads as a coincident indicator to stock prices: there is a positive correlation, but not always and not always to the same degree. It is often dangerous to rely on one indicator as a panacea to equity investing.

Longer term bullish sentiment measures are and have been at extremely high levels, a 10 on a scale of one to ten. Shorter term sentiment measures are not quite as high, but still very high. Although these measures have been useless lately, they still show a head wind against stock prices as mutual fund cash is almost non-existent.

The belief that it doesn't matter why corporate spreads are tight, that only the fact that they are is important, is dangerous. The market is driven by decisions made by human beings, and we all know that sometimes those decisions are not well thought out from a risk perspective. I think this is one of those times. I have written about pensions, insurance companies, and hedge funds under extreme pressure to perform, whether because they have a liability stream to support or investors to satisfy. I believe they have disregarded risk because of this intense pressure to perform. I don't believe this is healthy for stock prices. And when it unwinds it is likely to be rapid.

Default rates may be in general low, but one reason is because 2001 and 2002 saw historically high rates of defaults. We live in a relative world and analysts make sure use of relativity.

The trailing P/E ratio for the SP500 is 19.5. Looking forward is pretty useless, but that is at 16.5. Stocks are not cheap by any measure. Normally as the year goes on, earning estimates come down.

It is always dangerous to try to predict the direction of the overall stock market for the reason that there are so many variables mixing in with each other.

Using one variable is the dangerous thing.

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