Market report

Economic figures in the USA too good for interest rate cuts, long-term bull and bear markets, valuation of companies.

February 7, 2024
5 min.
Economic figures in the USA too good for interest rate cuts, long-term bull and bear markets, valuation of companies.

Chart of 5the week

Source: Twitter, Equity Clock, @EquityClock, 02.02.2024

Last week, the US labor market figures disappointed the markets. More new jobs were created outside the agricultural sector than had been expected. 325,000 new jobs were created, compared with an expected increase of 180,000, meaning that the total number of people employed in the US fell by 2.635 million or 1.7% in January, which was above the forecast of 2.0%. This is exactly what the chart above shows.
Why this is important
The chart helps to understand why the stock market took this news so badly. The blue line shows the average change over the last 10 years. As long as the current figures are above this line, the economy will not cool down. This means that the US Federal Reserve will not cut interest rates as expected.

Source: Twitter, Mohamed A. El-Erian, @elerianm, 02.02.2024

Since the announcement of the data, investors' expectations for a rate cut in March have changed massively. Just a month ago, the expectation was 75%, now it is only 25%. Hopes of falling interest rates have driven the stock market in recent weeks.
We have repeatedly pointed out in this weekly report that we consider the expectation of seven interest rate cuts per year to be too optimistic. As many companies are beating expectations in the current reporting season for the 2024 annual results, the stock market has not fallen as sharply as would otherwise be the case.

Long-term bull and bear markets
If you ignore the daily and weekly fluctuations, the stock market moves in large cycles. These are shown in the following chart.

Source: Twitter, Jurrien Timmer, @TimmerFidelity, 01.02.2024

The upper part of the chart shows the major bull (rising stock market) and bear (falling stock market) markets.
Two little mnemonics for these two terms. I come from Bern and the Bärengraben is at one of the lowest points in the city. So you go down to the Bärengraben. On the other hand, if a bull attacks you and takes you on the horns, you fly up.
To the chart above. There have been 17 bull markets since 1960. The price increase has been between 48% and 169%. In the current bull cycle, the markets have only risen 37%. If the stock market were to turn down now, we would see the shortest bull market since 1960. With the good earnings results that companies are currently announcing, this is unrealistic. The bull market can therefore continue for some time yet.

Company valuations
When is a company expensive and when is it reasonably valued? Apple announced a quarterly profit of USD 40 billion last week. Is the share price of USD 188 justified or not?
There are many ways of calculating the value of a company and assessing whether a share is expensive or cheap. One of the best-known key figures is the price/earnings ratio (P/E ratio). The price/earnings ratio is calculated by dividing the current share price of a company by the earnings per share.
This calculation can be carried out with the current figures, but also with the earnings estimates. The key figure is then called "forward P/E".

Source: Isabelnet, 05.01.20242

The chart shows how the price/earnings ratio of three indices has changed since 2014. The S&P 500 (gray line), the Magnificant 7 stocks (light blue line) and the S&P 500 excluding the Magnificant 7 (dark blue line: Apple, Amazon, Alphabet (Google), Meta Platforms (Facebook), Microsoft, Nvidia and Tesla).

Over the past 10 years, the S%P 500 has traded at a P/E of 15 to 20. This means that the average stock valuation is between 15 and 20 times a company's annual earnings.

If a buyer buys a company today, the company must deliver at least the profit it makes today per year over 20 years until the purchase price is reached and the buyer makes a profit. In the case of companies such as Nestle or Coca Cola, one might be confident in making a 20-year estimate. It's different with a company like Netflix.

NVIDIA, one of the Magnificant 7, is currently trading at a P/E of 90. Would you bet that the company will make at least the same profit over 90 years as it did last year?
The chart above also shows how absurdly high the Magnificant 7 are valued. The valuation here is far removed from reality.

The calculation of the P/E is based on the published profits of the companies. These profits can be manipulated relatively easily. They can be distorted by takeovers, mergers and write-offs. Robert Schiller, the Nobel Prize winner in economics, has developed a version of the P/E that adjusts for these distortions. It is also known as the cyclically-adjusted price/earnings ratio.

Source:, Februar 2024

The chart shows the historical development of the Schiller P/E ratio since 1880. The current value of 33.27 is very high, but not the highest it has ever been. The pessimists on the stock markets often use the level of the Schiller P/E to justify their negative forecasts for the markets.
The following table shows a wide range of valuation measures for companies.

Source: YouTube, Mario Lochner, 5.2.2024

We do not intend to go into each valuation parameter here, it is about the overall picture. The Min and Max columns show the lowest and highest values that the valuation parameter has ever had. The "% Above avg" column is interesting. In other words, whether the valuation parameter is above or below the historical average.

Almost all valuation parameters are currently above or even well above the historical average, but still far from the maximum highs.
This is no reason for us to sell all stocks in a panic, but caution is still advisable. We remain fully invested but feel more comfortable in conservative value stocks such as Nestlé or Coca-Cola than in NVIDIA.
The following chart, which shows the risk premium for equities, is also interesting in this context.

Source: Twitter, Lance Roberts, @LanceRoberts, 02.02.2024

The chart shows the average risk premium of the S&P 500. For this purpose, the yield on 3-month government bonds is subtracted from the earnings yield.

The earnings yield refers to the earnings per share for the last 12-month period, divided by the current market price per share. The earnings yield (the inverse of the price/earnings ratio) shows the percentage of a company's earnings per share.
A negative value means that over the next 3 months you will probably earn more if you buy US government bonds than if you hold shares.

The only time the risk premium was lower was during the internet bubble in 2000, but we also had similar values in 1997 and the correction only came 3 years later. The same picture here too. No reason to sell shares in a panic, but caution is still advisable.

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