Examining the stock market's late-cycle behavior


Lots of traders and investors have been talking about the U.S. stock market’s “late-cycle” behavior recently. I think a lot of them are missing the more important point.
Yes, we are certainly in the late innings of this bull market. HOWEVER, the bull market probably has 1 year left.
For example, Citadel’s Ken Griffin told Bloomberg that the bull market rally has AT LEAST 1.5 – 2 years left. Citadel is one of the few hedge funds that consistently outperforms.
Legendary fund manager Jeremy Grantham (who has predicted every bubble over the past several decades) conducted an excellent interview with Business Insider recently. Here are the 3 takeaways from his interview:

  1. Stating that the “stock market is in a bubble” or this is “late-cycle” is useless unless you plan on buying and holding for 10 years (which, if you’re reading this website, that’s probably not your plan).
  2. There’s no difference in getting out too early (before the top) vs. getting out too late (after the top). In fact, it is often more harmful to sell on the way up rather than on the way down. This is because you are far more likely to sell too early than to sell too late.
  3. The pace of the bull market’s final rally = the pace of the bear market’s first decline. This is because bull markets tend to “melt up”. Hence, getting out too early means that you could miss out on big gains.


With that being said, let’s examine this late cycle. We did a market study on Consumer Confidence yesterday. Based on this study, the bull market has 1-1.5 years left. Using this analogy, that would take this bull market to Q3 2018 – Q1 2019.

AAII Cash Allocation

AAII is one of the most widely cited investor sentiment surveys. Investors’ cash allocation has been extremely low recently.

It’s worth noting that investors’ cash allocation has been consistently low throughout this ENTIRE bull market. (Cash allocation is currently <18%).

Cash allocation has been under <18% for 22 consecutive months. The only semi-comparable streaks were:

  1. November 2014-July 2015 (9 months)
  2. December 1998 – September 1999 (10 months)

In both historical cases, the S&P began a bear market or “big correction” within the next 6 months.

I wouldn’t place too much emphasis on this.

  1. This data is limited: 1987 – present
  2. Sentiment surveys are always less useful than the market’s own price action and fundamentals.

Initial Claims

Initial Claims is one of the best leading indicators for the U.S. stock market and economy (which I explain in my book).
Initial Claims are very low right now.

Here are all the historical cases of Initial Claims being below 220k, mapped onto a chart of the S&P 500.

Initial Claims have been below 220k for 11 weeks in a row.

This has only happened leading up to the December 1968 bull market top. In that bull market, this first occurred in April 1968, 7 months before the bull market topped.

Conclusion

We are certainly in the late-cycle of this bull market.
The Medium-Long Term Model has recently taken 1 BIG step to flipping from “long term bullish” to “long term bearish”. It is still bullish, but at this rate, will probably turn bearish sometime in the first half of 2019 (probably Q2 2019).
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5 comments add yours

  1. You say: Based on this study, the bull market has 1-1.5 years left. Using this analogy, that would take this bull market to Q3 2018 – Q1 2019.
    In the conclusion you say: [The Medium-Long term model] is still bullish, but at this rate, will probably turn bearish sometime in the first half of 2019 (probably Q2 2019).
    Is this correct? We are currently in Q3 2018.

      • Still, I think that Jean-Pierre is right, there seems to be a typo: “If the Medium-Long Term Model tends to turn bearish before the top”, and if the top will happen in Q3 2018 – Q1 2019 as you said, that would mean that the top will happen in 6 months as much, not in 1-1.5 years.
        So, may be that you intended to say that “Based on this study, the bull market has 1-1.5 years left. Using this analogy, that would take this bull market to Q3 2019 – Q1 2020”?

        • Hi Alberto,
          At this rate, the Medium-Long Term Model will probably turn bearish in Q2 2019. The Medium-Long Term Model tends to (but not always, see 1969) turn bearish before the exact top.
          I think there’s a good possibility that this time, the Medium-Long Term Model and the stock market top will be quite close together. Either way, the point is that as 2019 rolls on, the long term term risk increases progressively.

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