Before The Bell - The major U.S. equity indexes started the middle day of the trading week with new records highs, but following the initial move to the upside they slid back toward the neutral line and then never strayed too far from the breakeven mark. Overall, it was a mixed session, with the Dow Jones Industrials finishing with a nominal gain, while the tech-heavy NASDAQ Composite and the small-cap Russell 2000 ended in the red. The broader S&P 500 Index was relatively unchanged. This morning, the market is looking like it will again start the session to the upside.
Much of the news yesterday was positive, with the quarterly results from Corporate America exceeding expectations. With more than three-fourths of the S&P 500 companies reporting, the overwhelming results have been positive and yesterday was no different. The big names beating Wall Street’s estimates were Lyft (LYFT), Twitter (TWTR), General Motors (GM) and Dow-30 component Coca-Cola (KO). Another headline report came from the business beat, with the Labor Department reporting that consumer prices were benign in January, which quelled some of Wall Street’s concerns, at least for the moment, about an uptick in inflationary pressures. Higher prices would not be welcomed news for a stock market that is looking overbought right now.
Indeed, valuations in the U.S. equity market are quite frothy at the moment and against this backdrop it will take more than a few positive earnings releases, which have been already priced into the market, to push stocks higher in the near term. Perhaps, the market is waiting for another stimulus plan to gain Congress’ approval before it will try to test new highs. We also think that investors, despite very few attractive alternatives to stocks, are getting a bit worried about the high valuations. In such an environment, if the news were to disappoint, stocks could feel the wrath of traders. The looming “Wall of Worry” for Wall Street, includes concerns about the U.S. economy and in particular the labor market (more below).
So how overbought might the current stock market be these days? Circulating around Wall Street yesterday was a report that a famed formula used by Warren Buffet is indicating that valuations are looking very frothy. The “Buffett Indicator,” as it is known on Wall Street, takes the Wilshire 5000 Index (which represents the total stock market) and divides it by the annual U.S. Gross Domestic Product. The figure now stands at just south of 200%. In comparison, the reading just before the bursting of the dot.com bubble in the early 2000s was just shy of 160%. Given this scenario, we think that investors who are worried about a possible stock market correction ahead would be wise to look at stocks ranked 1 (Highest) or 2 (Above Average) for Safety by Value Line. This group of stocks has historically outperformed the broader market during turbulent times. Value Line subscribers can create screens to target what stocks stand out for Safety on valueline.com. In general, there seems to be a movement into value stocks from some high-growth areas, including technology.
Meantime, the employment picture painted by Federal Reserve Chairman Jerome Powell yesterday in prepared remarks was a rather dour one. Chairman Powell, on the heels of last week’s disappointing jobs creation figures for the month of January said that the labor market is weak and that the central bank will remain accommodative, as low interest rates can benefit the labor market. The loose lending policies, along with a stimulus plan out of Washington, may prove to be the perfect cocktail for stocks in the short term even with some of the aforementioned concerns very much in play.
Speaking of the employment and unemployment picture, the latter of which Mr. Powell said is far worse than the 6.3% figure last week indicated (he believes it is closer to 10% mark right now), we just received the latest reading on initial weekly unemployment claims and the data indicate that the labor market is hurting, as the figure came in 793,000; the expectation was for around 760,000.
Before the bell, the equity futures are pointing to a higher opening when trading commences stateside. The European bourses are nominally higher this morning after reports indicated that economic growth in the euro zone is now expected to be slower than previously anticipated; perhaps this news is raising hopes that further stimulus from the European Central Bank and/or the confederation’s largest governments is forthcoming. It certainly looks like both here and across the pond, investors are looking for another round of stimulus measures to drive the markets higher from their already lofty perch. Today’s aforementioned dour jobless claims data did not have much of an impact on pre-market actions and the major equity averages appear set to start the week’s penultimate trading session in record territory. Stay tuned. – William G. Ferguson