I.C. Angles Investment Post…

The stock market continues to move higher, and there is no reason to bet otherwise, as long as it continues to hold support at its 125-day simple moving average. On the other hand, given underlying fundamentals, including increasingly expensive valuations, hedging your bets a bit, holding some cash and preparing for when key support fails is also a smart move. In other words, my basic outlook remains unchanged, while this bull market and economic recovery both get longer in the tooth and statistically more likely to end, as stocks keep rising.

Presently, the S&P 500 is bumping up against the 2,000 point level and the 125-day SMA is coming in at 1,900. Of course the 125-day moving average isn’t magical. But it is a level the market has generally held for almost two years now, and for that reason it is of some significance and when it does fail it will signal a new phase of greater risk for the stock market.

Source: BigCharts.com

The rally in stocks that has seen the S&P 500 near a record high of 2,000 points has come by way largely of increasingly stretched valuations. Henry Blodget’s article from today ” Why Stocks Could Fall by 50 Percent” is a good summary of the current market situation and includes the below chart from Hussman funds, showing seven valuation methods that are correlated to predicting future market returns forecasting a less than a two percent return over the next ten years.

Source: Hussman Funds

Based on history and today’s valuations a big move down is likely a matter of time. The big question is when will this high-flying market come back to Earth and how far is the fall. A decline of about 50 percent is a realistic possibility, but so also is a fall that goes even further, as markets often overshoot when they do roll over. Today, there is certainly plenty of room to fall, as an overshoot of more than a 50 percent decline would take the market back to levels familiar to the last two bear markets. Such a fall might be hard to imagine, but in hindsight it might appear the obvious conclusion to a secular bear market that started in 2000 and a notably weak economic recovery.

 Source: BigCharts.com