Is the rally overcooked?
I don’t know, but that question surely is. I’ve used it as the anchor for countless articles over the last eight years. It works every, single time, a testament to the enduring appeal of allusions to a market crash which almost surely isn’t coming.
But who knows, maybe the post-election rally which saw the S&P bubble up through 6,000 (and remember children, the benchmark of all benchmarks was below 700 — that’s seven hundred — in March of 2009, which feels like just yesterday to those of us whose five o’clock shadows have some gray in them) is the top for this particular melt-up.
The simple figure below, from JonesTrading’s Mike O’Rourke, shows the S&P as a percentage of US GDP. The stock market’s now nearly twice the size of the economy, just as shareholder capitalism decreed.
“This is a 50% premium to the equity bubble peak in 2000,” O’Rourke remarked, adding that at nearly 210% of GDP, the Russell 3000 is “just shy” of the high seen during the 2021 “everything bubble,” which I relived on Tuesday in “Elon’s World.”
I mentioned the GFC low for the S&P above. That low was 666. As O’Rourke’s chart shows, index market cap at that moment was just 50% of GDP, give or take. We’re nearly quadruple that now.
Of course, market timing is folly. The S&P expressed as a percentage of GDP isn’t any better in that regard than a trailing multiple, or a forward multiple, or any other metric anyone’s ever floated as a reliable sell signal. They do ring bells at the top, but those bells are generally anecdotal, and only recognizable in hindsight (e.g., “Looking back on it, the no-doc mortgage to Tweety the stripper was a canary”).
In “Hedges Roasting On An Open Fire,” I noted the rapid call skew steepening witnessed since the election, describing it as a sign of left-behind investors “try[ing] to catch a moving train through OTM upside.” The table below, from Nomura’s Charlie McElligott, gives you sense of call skew percentile rankings.
You want to focus on the green boxes around the red-shaded percentile rankings in the call skew columns. For the new or uninitiated: Those rankings essentially tell you how extreme, relative to history (and the lookback for each ticker is in the right-most column) demand for out-of-the-money upside is versus at-the-money calls. The higher the percentile ranking — the greater the interest in the call wing — the more intense the “FOMO.”
As extreme as those ranking are, McElligott said Tuesday that for now, it’s merely a “yellow” flag. So, not a red one. Yet.
“Yes, it can and will turn into a signal of excess eventually, especially if it were to develop into a ‘spot-up, vol-up’ market, where often times we’ve seen options-driven bids turn and collapse under the weight of their own delta [but] for now, I’d consider this upside-chasing mania only a ‘yellow flag’ worth keeping one eye on and certainly not a stand-alone bearish catalyst,” he wrote, adding that key elements of the well-socialized year-end melt-up thesis have yet to manifest and may well still develop.
After all, he went on, there are probably still some discretionary investors who need to catch up, which could “create a ‘buyers are higher’ dynamic into year-end,” helped along by the corporate bid.
A more reasonable guess than a crash scenario is us large caps putting in a disappointing return over the next 5 or 10 years. Something like 3% per year vs inflation in that ballpark. So no real return…
That’s more likely in my view than a crash. Same for residential real estate too. Does not generate clicks though….
I think we will have the period where investors try to reckon out which of the innumerable promises, proclamations, and priorities – of not only Trump, but also those with influence on him and those who he appoints in power positions – will actually be pursued and come true. “Cut corporate taxes” is a broad positive. “Tariff Man” is (mostly) a broad negative. Then there are the more industry-specific things, from “build nuclear build” to “make America safe for ivermectin”, and the things that are two-edged swords like “produce more oil”. Add into the mix the newly empowered influence-holders like Musk, whose interests were not previously central to Trump-world but now presumably are. Then wonder what will get dropped to fund all the tax cuts – maybe push out a CVN or the B21 program, maybe privatize NASA under SpaceX’s control, maybe cut off NIH research or lop off the whole Dept of Education. And what will the knock-on effects be, when combined with likely higher deficits, resurgent inflation, trade disruptions, and who knows what else? If a particular company’s revenues get hit or COGS inflated, that will more than offset a lower tax rate. All that said, we are still in a positive seasonal period, so I’d guess the bulk of this reckoning is more of a 1H25 thing.
Speaking of the “corporate bid” so many are anticipating to add fuelntovthe rally….today i was talking with with one of our younger bucks
who came to us from the start up world. He was skeptical of my aversion to share buybacks in general, but had to acknowledge that CEOs executing them at these levels to enhance their personal should, at least, raise an eyebrow.
Seriously folks, is this what our favorite “stewards of our capital” be doing at these levels??
I remember Doug Kass calling March 2009 a “generational low”. Whodda thunk he got it that right. I didn’t believe him.
Reduction in corporate taxes, increase in stock buybacks. Thank you working stiffs. Who needs capital.
Speaking of pluses and minuses, deportation of any substantial immigrant groups likely to result in increased prices for food products reliant on immigrant labor, increase in labor costs to entice real ‘mericans to work in the fields and on production lines; a federal RIF of say entire departments will be certainly a big negative, less federal spending but only small dent in deficit; tariffs big negative for the economy, small dent in the deficit; less regulation ( which by the way generally was introduced to combat corporate abuse of working stiffs) leading to more abuse of working stiffs.
All on top of whatever strikes the fancy of the corpulent clown. I can’t wait.
By the way, federal employees being RIF’d are entitled to severance based on years of service. I think it maxes out at a years pay. So short term nominal reduction in deficit. Also full lawyer employment act as most federal employees are union. And what about contractors to the feds? I see an increase in contractors cause that is what happens when you still have to provide the services. Hey, those student loans aren’t going to service themselves.
In looking at the chart, you can see over the various investment options, SPY, etc., and their skew percentiles at one and three months. Does this mean that lower numbered skew percentiles might be a better investment than the higher ones at this point?
I wouldn’t read it that way, no.
Thanks for pointing out the right-hand lookback column. I’m so used to Charlie doing 1y or at most 2y lookbacks, I just assumed that was the case. Man, Russel 2000 is SCREAMING