It looks like a familiar pattern is being repeated. Modest market weakness improves sentiment but not to a level better than neutral. Then the market rallies, convincing more investors that timing is a waste of time. During the entire phase of mini-correction and recovery, valuation remains extremely high. It is impossible to know when this pattern will no longer be valid but, when it ends, I continue to believe that the market is vulnerable to a sharp and swift decline. My model still recommends caution with a small equity exposure.
I am beginning to add in 2015 earnings expectations now that we are in the final half of the year. This weighted estimate for 2014-2015 is still in an uptrend.
As long as this continues, my first earnings indicator is positive.
Looking at earnings 52 weeks ahead, estimates are also in a clear uptrend.
With both indicators positive, earnings exposure remains at 100%, same as last week.
Looking at the gap between last twelve month earnings and future 52 week projections, the gap has
reached negative levels and that gap is increasing.
The large and widening gap dictates a reduction in the earnings factor by 25%.
Total earnings factor exposure and maximum total exposure remains at 75%, same as last week.
The equity put/call ratio has stalled out at a neutral level.
Exposure remains at 50%, same as last week.
Small option buyers have also stopped becoming more cautious.
Exposure remains at 35%, same as last week.
NAAIM managers held their cash position level with last week but my moving average increased to a neutral level.
Exposure increases to 50%, up from 20% last week.
Average sentiment exposure this week is 45%, up from 35% last week.
My long term valuation indicator remains negative as expected stock returns over the next 10 years are still below the yield on the ten year treasury and are now back below 2%.
This factor continues to call for 0 equity exposure.
Percentage of stock prices represented by net current assets remained the same last week.
Exposure remains at 0%, same as last week.
Comparison of stock earnings yield to ten year treasury yield also remained the same last week.
Exposure remains at 70%, same as last week.
Total valuation exposure is 23%, same as last week.
To get a combined exposure for these three factors, I multiply them together and then take the cube root.
This week, that number is 43%, up from 39% last week.
My comparison of yields on treasury bonds compared to lower quality corporates remained in a decline last week.
I subtract 10% to account for this factor.
New highs - new lows on the Nasdaq increased to a neutral level last week.
I make no adjustment for this factor.
My trend indicator for new highs - new lows on the Nasdaq is not operative since the previous indicator is negative or neutral.
Total technical adjustments this week are -10%, up from -20% last week.
After adjustments, total exposure for the week is 33% or, after rounding, 25%.
This level of exposure does not exceed the current earnings cap and is the last
Richard Moore, CFA
With my wife in Hawaii