Tuesday, October 20, 2009


Guambat has mentioned before that John Hussman is a very good read, but only on occasion; too much is a bit like watching paint dry.

So it is that Guambat had not checked in on him in a few weeks, but was nudged into it by a "Quick Read" headline tip from Barry.

Good tip, too.

Hussman, in this week's letter, points out "we can no longer find a single historical instance where stocks were more overbought on the combination of short- and intermediate-term measures we respond to most strongly."

Continuing, he says
Indeed, only one instance comes close, which is November 28, 1980.

Now, if that date doesn't ring a bell, I have to admit that it didn't resonate with me either at first. On that date, the stock market was just a few months into a fresh economic recovery following the 1980 recession, employment conditions were just beginning to improve, capacity utilization was picking up, the Purchasing Managers Index had just moved back over 50, and stocks were certainly not overvalued on the basis of normalized earnings or cash flows. Indeed, the P/E multiple of the S&P 500 was just over 9, on the basis of both trailing and normalized earnings. Advisory sentiment was not strenuously bullish either, so there was little to identify it as a date to remember.

As it happened, however, November 28, 1980 was the peak of the furious advance in S&P 500 driven by enthusiasm over "less bad" economic news, though with little proven economic strength. It was the last day of the 1980 bull market. The economy later proved to have been in a short lull within a double-dip recession, taking stocks to their final lows in 1982.
That low took almost 2 years to get to, wiping out almost 30% of the peak value of the S&P.
One of the notable features of extreme overbought conditions is that investors rarely have much opportunity to get out, just like the fast and furious advances that clear oversold conditions tend to occur too quickly to capture unless one has already established a position. As for the present, we have rarely seen 90% of stocks suspended above their 50- and 200-day moving averages for as sustained a period as we have now observed.

This concern extends beyond intermediate-term technical conditions. ... [I]t is already at or below the level at which every bull market since the Great Depression has ended, save for the bubble period between 1995 and 2007 (which has produced disappointing overall returns for the S&P 500), and one other instance – January 1937, which was followed by a brutal one-year loss of more than 50%.

That said, investors clearly are approaching the current market with every belief that the extreme valuations of 2007 represent the sustainable norm to which stocks should return.

The anchoring of investor expectations to a period of rich valuations and unusually wide profit margins may not be reasonable, but it prevents any ability to “forecast” a significant near term decline, much less a sustained downtrend. At the same time, we do have sufficient evidence to indicate that market risk is not worth taking on the basis of average outcomes from the combination of valuation and market action we currently observe.

The foregoing should not be interpreted as a "call" or forecast about sustained market direction. Rather, it outlines some of the factors are behind our defensive stance. As always, we align our investment position with the prevailing Market Climate, which does not require large or extended forecasts. I would be less than forthright, however, if I didn't admit that I suspect the current overbought condition may be cleared somewhat violently.
If the reasonable, prudent man was really a pants-wearing homo sapiens, it would be John Hussman.

And if you want to know more detail why we're no where near out of the foreclosure woods and why he reckons "
the U.S. banking system is quietly going insolvent", you'll want to read the whole of his report.

Meanwhile, sigh, in this morning's news,
NEW YORK (Dow Jones)--U.S. stock futures pared their earlier gains Tuesday morning following a larger-than-forecast monthly decline in the producer price index, a smaller-than-expected rise in housing starts and an unexpected drop in building permits, though they remained in the black thanks to strong third-quarter earnings reports.



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