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- The bull market turns 10 years old on Saturday, but Brad McMillian — the chief investment officer of $160 billion Commonwealth Financial Network — says there are signs stocks are much more likely to drop than they are to make big gains.
- McMillan says consumer confidence is slipping, and if it falls further, it could lead to a major economic slowdown. He also feels stock valuations are threateningly high.
- Sunday, the day after the bull market turns 10, will mark exactly 19 years since the Nasdaq peaked before the tech bubble burst in 2000. McMillan says investors should keep that period in mind because it’s similar to the current era in some key ways.
Wall Street’s bull market 10-year anniversary party this weekend might end in tears.
That was the warning recently relayed by Brad McMillan, the chief investment officer at Commonwealth Financial Network, which oversees $160 billion in assets. He’s focused on two signs of imminent danger: slipping consumer confidence and abnormally high valuations.
Consumer confidence hit an 18-year high in October — a reading that, upon first glance, seems like a good sign. After all, comfortable consumers spend more, and that behavior is responsible for about 70% of the US economy.
But McMillan notes the statistic dipped along with the stock market in late 2018. And while it made a small comeback in 2019, he doesn’t think it can go much higher.
Further, since consumer confidence is a measure that assesses economic sentiment over a forward six-month period, any sort of decline can be interpreted as a negative signal for the direction of stocks. That dynamic is illustrated by the chart below.
The Conference Board, Robert Shiller/Haver Analytics
When confidence falls, McMillan says, the economy slows and the stock market often falls with it. He explains that a 20-point drop in confidence seems to be the critical barrier. A drop that size can hammer the market and economy, even if the absolute level of confidence is still high.
"The decline doesn’t have to be that large to create economic problems," McMillan told Business Insider by phone. "If confidence were to take a hit, you could reasonably expect stock market valuations to drop as well."
On a valuation basis, investors commonly compare a company’s stock price to its earnings and sales — both of which are raising serious red flags that equities could be due for a fall. Yes, they’ve come down from highs in recent months, but McMillan says they’re still historically extended. Specifically looking at the ratio of price-to-sales, McMillan says valuations are close to the highest in 19 years.
In McMillan’s view, the high price-to-sales ratio means investors are counting on strong economic growth, and there’s a good chance they’ll be disappointed even if the economy continues to expand.
"With expectations so high, you don’t even need to see a slowing economy" for the market to skid, McMillan said. "You need an economy that doesn’t grow as fast as investors expected."
To illustrate his valuation concerns, McMillan says investors should consider the chart below. It shows one of the most well-known and widely respected metrics of all: Shiller cyclically adjusted P/E, which divides S&P 500 values by 10 years of average earnings, adjusted for inflation.
While it’s decreased recently — a positive sign for stocks — McMillan notes that it’s high compared to most of the past 40 years. He says that’s a hint of lower stock prices and potentially disappointing returns going forward.
Robert Shiller/Haver Analytics
But the negative signs don’t stop there. McMillan says the economy and the market tend to move in 10-year cycles, and that the market today is alarmingly similar to the height of the tech bubble in 2000. And while he’s not calling a bubble that is about to burst, he says the comparison should keep investors on high alert.
"The fact that we are looking at 10- and 19-year anniversaries suggests that it is certainly possible that another break point may be coming," McMillan said.
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Source: Business Insider – mjay@businessinsider.com (Marley Jay)