The average stock did a bit better last week but the trend of underperformance is still intact. Not much new to report but valuation did fall into the extreme bearish range again. The all important earnings indicator remains neutral but I think a decline in expectations is far more likely than an improvement. Sentiment remains on the bearish side of neutral. I am very comfortable being fully hedged.
Last week's bounce was more than I expected but it was more of the same in terms of divergence. The S & P 500 continues to outperform the average stock and now, while the S & P is up about 1.5% year to date, the average stock, as measured by the Value Line Geometric Index, is down almost 8%. This is an indication of distribution. Earnings expectations are still neutral but I think it is much more likely that they will go lower than higher. Valuation is just minimally better than extremely bearish and I have downgraded sentiment to neutral-bearish because I have removed the equity put/call ratio from consideration. It has been acting strangely and it does have an upward bias over time that is hard to quantify so I am choosing to disregard it now and just use my other indicators. I am back to a fully hedged position.
Persistent weakness over the last few days has improved some of my indicators but only modestly. Far more important is some additional deterioration in earnings expectations. My earnings indicator is now neutral, down a notch last week. Sentiment has improved to neutral from neutral - bearish as the equity put/call ratio increased dramatically. Valuation also improved from bearish to neutral - bearish as stock prices declined. The market really acted terribly last week and the horrible attack in Paris may dampen spirits even more but, nevertheless, my model is taking a small 30% position in the hope of a bounce.
My model is indicating that the easy money has been made and that it is time again to move to the sidelines. Earnings expectations are holding at the neutral - bullish level but actual earnings as they are reported are very weak. Valuation is once again bearish and sentiment has continued to deteriorate and is now neutral - bearish. There was a bit of a rebound in the performance of the average stock last week but my stocks are lagging and any company that reports earnings below expectations is bashed unmercifully. We are back in a high risk - low reward environment.
My model shows no change in exposure again this week but, behind the scenes, there are some shifting indicators. Earnings expectations 52 weeks out increased nicely last week, probably because of the inclusion of Q3 2016 to the mix. That has increased the important earnings indicator from neutral to neutral-bullish. Also improving, albeit marginally, was the valuation indicator which is now neutral-bearish, up from bearish. Counteracting these positive changes was a decline in sentiment from bullish to neutral as small investors and speculators have become less bearish in their outlook. All in all, I'm still holding a 30% position in stocks and hoping for better performance from the average stock - they have lagged the major averages very badly.
Richard Moore, CFA
With my wife in Hawaii