Nine months ago it seemed a prediction that was bold and unimaginative all at once: That the Standard & Poor’s 500 index would claim for itself the theatrical moment of reaching the 2,014 level in the year 2014. Now this unyielding bull market, after a few nervous stutter steps, has made it happen.
The S&P 500 touched this level Friday morning. It got there on the day the instant megacap Alibaba Group (BABA) debuted in a culmination of the easy-money, China-emergence and e-commerce market themes, and in the week when investors were, yet again, reassured for the moment that the Federal Reserve remains inclined to move slow in sunsetting its easy-money policies.
The 2,014 level was a cutesy year-end 2014 target set in December by a couple of Wall Street strategists, representing a respectable 9% gain after last year’s 30% surge. Yet, mostly by coincidence, the 2,014 level also sits at a threshold of some consequence, representing exactly a 50% gain from the point in late 2012 when the stock market embarked upon its “liftoff phase.”
From post-crisis fear to growth-minded greed
This is what I've dubbed this period, still underway, when the mood tipped from post-crisis fear toward growth-minded greed, when investors began paying ever more generously for each dollar of corporate profits, when the sheer level of central-bank commitment to easy money persuaded financial players that calamity risk was suppressed and market volatility smothered. This was when the "era of uncertainty" finally drew to a close, as suggested here at the time.
We can even point to an exact date when the bull market truly started acting like one: Nov. 16, 2012. On that day, the S&P 500 made a midday low of 1,343, marking an 8% loss in the prior month amid the noise of President Obama’s re-election and exhausting drama over the “fiscal cliff” tax-code expiration fight it would produce.
Now that the main big-stock benchmark has clicked to 2,014, it means the U.S. stock market is precisely half-again as valuable as it was 22 months ago – a good occasion to reflect, and assess whether the drivers and character of the market over this run remain in place, or are giving way to another, less generous backdrop.
Consider further evidence that the character of the market turned on or around that date:
- That’s when stock valuations began to levitate with investor confidence and risk appetites, as shares took to rising well in excess of underlying company earnings growth. Over the prior three years, the rebound in earnings outpaced market appreciation, a sign of residual caution and stinginess among crisis-raw investors.
Doug Ramsey, chief investment officer at Minneapolis asset manager and market research firm Leuthold Group, noted recently that, since the November 2012 low, two-thirds of the market gains have come from higher price-to-earnings multiples and one-third from higher corporate profits. The median stock in Leuthold’s 3,000-stock universe went from 16.8-times prior year’s earnings in November 2012 to 22-times this summer.
- The market’s low on Nov. 16, 2012, came the same day the yield on the 10-year U.S. Treasury note made a decisive low of 1.57%, in a clenching up of economic-growth anxiety, fiscal policy confusion and the fresh memory of global market scares.
- The fall of 2012 was when investors bought into European Central Bank Chairman Mario Draghi’s pledge to do “whatever it takes” to support the Euro economy, and when the Federal Reserve’s open-ended $85 billion-per-month asset-purchase program known as QE3 was launched.
This program, now in wind-down mode, seemed the one that persuaded equity and credit investors that the downside in risk markets was cushioned, the Fed prepared to err on the side of more help versus not enough.
This “liftoff phase” in stocks has only been as strong as it has because of true and substantial strengthening in core economic performance. By November 2012, the unemployment rate was stuck for months between 7.8% and 8%, before it began sliding steeply toward today’s 6.1%.
A central bank firmly and convincingly committed to stimulative policy was administering strong help to an economy that decreasingly seemed to need it – a magical combination for financial assets. The important question now is whether this happy heads-I-win-tails-you-lose setup is reverting to a less forgiving arrangement.
Morgan Stanley strategist Adam Parker was first to set a 2,014 year-ahead target for the S&P 500 in late 2013, which made him the most bullish on the Street at the time. He argued in July that “the risk-reward is more balanced," but this month lifted his 12-month target to 2,125, and sketched out a path for the index to attain the 3,000 perch by the year 2020.
The post-November 2012 backdrop has been one where “good news is good and bad news is good,” because of that perceived unwavering Fed support in the event growth stumbles. The economy has had "just the right amount of wrong" to stay strong, to borrow a tag line from a naught Las Vegas hotel ad.
Now – with the QE3 being sunset soon, stocks a good deal more expensive and the consensus expectations for U.S. growth becoming quite optimistic – there's a chance that we are nearer to that moment when it's no longer "heads I win, tails you lose." Beneath the indexes, in fact, the action has been a good deal more ragged this year, with a narrow group of large stocks doing the work as smaller stocks stalled and many sectors had nasty gut checks. This can be seen as classic late-bull-market loss of internal energy, or a "digestion" of a broad, outsized gains since late 2012.
There remains a dream scenario for a continued upside overshoot, of course, contingent upon that now-expected growth acceleration, with inflation problems remote enough to allow the Fed a scripted and gradual lifting of short-term rates from zero. Long-term yields would lift and steepen the yield curve, liquidity would stay strong, the 2,014 index level would be left in the dust and stock multiples could keep climbing in this potential story line. Meantime, the corporate mergers-and-acquisitions party would rage even harder.
While we’re talking index-and-year number quirks, Doug Ramsey points out that the last time a major index climbed across a level that was also the year number was when the Dow Jones Industrial Average crossed 1987 in January of 1987. It would, of course, crash through the level that October.
This is just a fun fact and not meant as a foreboding prediction that an ’87-like collapse is ahead. Although, October is just around the corner...