Here is chart I made of SPX earnings yield versus risk free rate (U.S. 10 YR). I know this has been shilled a lot in academia (Damodaran anyone?), but the correlation between them for a further market rally is poor. Look at the 90s! Rf rate stayed consistently above S and P EY for an entire decade. Would you have been short that market, betting on a 50% retracement?
Look I get what you are saying, we have a -10% to -20% correction where the weak hands are shaken off the train, then the rally continues, yadda yadda yadda. But there is an important caveat: Not every -10% to -20% drawdown is the same. Take a look at the implied recession probability (calculated by FED treasury spreads) versus SPX: In 2011 we had a -19.4% drawdown, IRP was <5%, weak hands missed the rally and were BTFOed. In 2016 we had a -16.0% drawdown, IRP was <2%, weak hands missed the recovery and were BTFOed. In Q1 2018 we had a -10.0% drawdown, IRP was <10%, weak hands missed the rally and were BTFOed. In Q4 2018 we had a -20.0% drawdown, but IRP went from 10% to 27% during the Q12019 recovery? I bought the dip in 2016, Q12018, and Q42018. However, this is not a normal correction. It's all a matter of basic conditional probability, same expected forward return as before, but the risks have increased 4 to 5 fold!
Shilled in academia? You are clueless. It is a FED model, coined by Yardeni and it is pretty useless. For starters one is nominal and other is real yield.
I hear you. No model is perfect. But we all have to predict based on something. At the moment I just don’t see any other assets worth buying. Including cash.
This stuff can get complicated quick. I don’t buy this IRP stuff. Couple years ago went to a lecture by Loreta Mester the Cleveland Fed President. She downplayed the significance of the spreads, citing market supply demand other than recession related reasons. Eg foreign funds flight to safety. I tend to agree on that. Too many factors affecting the yields.
I think they hired too many PhD physicists, mathematicians, statisticians and economists. Too smart for their own good, they didn't get back in because of paralysis by analysis?
I call them bottom of the barrel because they think like amateurs. The forexIG data shows how retail got shaken out from oct to March.
This maybe a chicken and egg thing. Money is easier to get when times are good. This also goes with my question of ‘are we gonna run out of shares’. Corp bonds are at what. 3.5%. If you can borrow at 3.5 and buy back stuff yielding 6. Why not. This is partly why the yields will naturally equalize. The question is where. And the Fed seems to have gestured 3%. On top of the 2% inflation target. So. S&p 5000. Here we come.