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U.S. Stocks Are Back on Course After a Seven Month Detour

Sarah Ponczek and Luke Kawa
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U.S. Stocks Are Back on Course After a Seven Month Detour

(Bloomberg) -- It took 14 weeks to fall, 17 weeks to recover, and if you managed never to sell during the U.S. stock market’s biggest tantrum in six years, you’ve just been made whole.

Seven months after it all began, the S&P 500 has completed one of the fastest round trips in market history. The benchmark gauge rose 0.8 percent during Tuesday’s session to 2,931.41, surpassing its previous Sept. 20 closing high of 2,930.75.

A lot has changed since autumn. A once-aggressive Federal Reserve says it’s on pause, Treasury yields have fallen half a percentage point, valuations are sturdier, and trade talks between the U.S. and China have progressed. Investors are limping back, more chastened than euphoric. Memories of the bull market’s near-death experience have kept inflows to stocks far below the explosive levels of last year.

“Stocks are not expensive, inflation is relatively low, and you’ve got a dovish interest rate outlook,” John Augustine, chief investment officer for Huntington Private Bank in Columbus, Ohio, said in an interview at Bloomberg’s New York headquarters. “We are in a moment of relative calm that was created by central banks and everything has lifted.”

From valuations, to momentum and sentiment levels, here’s where we stand:

Valuation Case

Stock prices have come all the way back, but courtesy of falling rates, at least one measure of valuation has improved. A model that takes interest rates into account -- the S&P 500’s earnings yield less the 10-year Treasury inflation-protected security’s yield -- is cheaper than it’s been during the bull run. That contrasts with the January and September 2018 records, when the model showed stocks more than a standard deviation more expensive.

“From a relative-valuation perspective, the equity valuation has improved significantly and is now near its long-term average relative to USTs,” said Alain Bokobza, Societe Generale’s head of global asset allocation. “So, despite the rise in the equity markets, the absolute and relative valuation of U.S. equities is near its lowest level since January 2017.”

Historical Perspective

The valuation picture is also tame when compared to historical turning points in the market. Relative to trailing 12-month earnings before interest, taxes, depreciation and amortization, the market’s enterprise value, or the price a theoretical buyer would pay to acquire its companies, is still far removed from dot-com bubble heights of above 15. Enterprise value relative to forward earnings is also subdued relative to previous all-time highs set during this bull run as well as the 2007 financial crisis peak in stocks.

Low Conviction

While the rally has been forceful, investors are acting like they’re not sure it will last. Only 37 percent of Americans believe stock prices will increase over the next year, compared with 26 percent who think levels will deflate. That leaves a spread of 11, just about half what the difference was at the end of September.

Missing Euphoria

Dubbed the “flowless rally,” this year’s gains have been met with about $90 billion worth of outflows from equity funds, Bank of America Merrill Lynch data from April 18 show. Large stock exchange-traded funds have seen interest of late, but overall, the investor trend for 2019 has been one of continual selling, from hedge funds, to retail and institutions.

The subdued sentiment is different from the period heading into last year’s fourth quarter, when sentiment models were flashing warnings and investor optimism was running high.

“You see a lot more money on the sidelines today and this rally, while moving higher, is done in a guarded fashion by a lot of investors,” said Wayne Wicker, chief investment officer at Vantagepoint Investment Advisers. “This is somewhat of a bull market that isn’t fully embraced by the breadth investors.”

Momentum Indicators

Only 61 stocks in the S&P 500 have 14-day relative strength readings clocking in above 70 -- the number that classifies overbought -- and that’s well off the highs of 144 overbought companies earlier this year. According to Bespoke Investment Group, the “RSI reading is consistent with strong sustainable breadth, as opposed to extremely high readings that would justify concern.”

--With assistance from Vildana Hajric.

To contact the reporters on this story: Sarah Ponczek in New York at sponczek2@bloomberg.net;Luke Kawa in New York at lkawa@bloomberg.net

To contact the editors responsible for this story: Jeremy Herron at jherron8@bloomberg.net, Chris Nagi

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