BofA Securities U.S. equity and quant strategist Savita Subramanian has developed a list of 10 ‘triggers,’ or signs that market rallies are set to conclude. The strategist also provides a short list of popular risk indicators that actually haven’t provided effective guidance for investors.
Extremes in U.S. consumer confidence as measured by the Conference Board Consumer Confidence index are the first signal of market tops. A reading of 110 has preceded previous peaks within six months, and this trigger was hit in January of this year.
Another Conference Board gauge, the net percentage of surveyed investors expecting U.S. stocks to rise in the next 12 months, is indicator number two. When this number is above 20 per cent, as it is now, market peaks are more likely.
BofA’s sell side indicator, a contrarian indicator based on equity allocations recommended by Wall Street strategists, is trigger number three. The sell side indicator is in neutral territory, so not indicative of a market top.
Indicator four, strategists’ long term profit growth expectations for S&P 500 constituents, is also contrarian – when forecasts rise more than one standard deviation above the five-year average, equity market corrections become more likely. Current estimates are only 0.2 standard deviations above the average.
Elevated merger and acquisition activity is trigger five. This condition has also not been met – mergers and acquisitions are less than one standard deviation above the ten-year average.
Trigger six involves inflation and price to earnings (PE) ratios that have had a consistent inverse relationship through market history. When the sum of the consumer price index (CPI) and S&P 500 PE ratio climbs on standard deviation above the ten-year average total, this has historically preceded market tops. Currently, the sum is 0.9 standard deviations above the average, very close to target.
Previous market corrections have been preceded by six-month periods when low PE stocks have underperformed high PE stocks by 2.5 percentage points, and this makes up trigger number seven. This condition has not been met in the current market.
Trigger eight, inversion of the U.S. yield curve – when long-term rates are below short -term rates – definitely has been met as the curve has been inverted since July 2022, the longest period on record.
The ninth condition for the end of the market rally is BofA’s proprietary Credit Stress Indicator, which tracks volatility, access to credit, leverage and ratings to assess market health. This indicator does not yet signal a market peak. The tenth market peak signal is the Senior Loan Officer Survey, measuring the number of banks tightening credit requirements. Sixteen per cent of U.S. banks are tightening borrowing, which is indicative of an equity market correction.
Widely followed indicators that Ms. Subramanian’s analysis suggests are not consistent indicators of market peaks include the CBOE Volatility (Vix) Index, earnings revisions, labour market strength and narrow market breadth.
All told, only four of the ten signals of longer-term market peaks have been triggered. In past bull markets, seven of these 10 conditions were typically triggered when markets had reached their highs.
-- Scott Barlow, Globe and Mail market strategist
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