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The S&P 500 began losing momentum in 2014, and proved increasingly prone to bouts of volatility. That’s why this bull market doesn’t feel like one, even though the index is just about 2.5% off its recent all-time high. Still, we caution against becoming too bearish: historically, prolonged phases of difficult markets were typically followed by great, multi-year equity booms.
In July, when the S&P 500 broke out to a new high, we highlighted some exceptional developments of the past few years that suggest equities could be headed for another multi-year boom - similar to the one that came in the second half of the 1990s. Today we update the argument with a few more observations.
First, we repeat the key points we in the LGT Beacon, July 20th, 2016: the post-2009 rally is one of the most unloved bull markets in history, as the hitherto unusually low level investor participation illustrates. Moreover, over the past couple of years, the S&P 500’s trading range narrowed, and volatility outbursts became more frequent (albeit short-lived). In other words: investors lacked a clear conviction in either direction. Specifically, the two-year peak-to-trough range fell to the lowest since mid-1994, i.e. a few months before the start of the most intense equity boom of the 20th century, which later became known as the dotcom-bubble.
Today we take a step further back, and look at what happened in even earlier decades. We find that the S&P 500 traded in similarly tight rolling two-year peak-to-trough ranges for more than six months only twice between 1927 and 1994, namely from August 1953 to March 1954, and from January to July 1979. In both cases, strong multi-year rallies followed, with the index surging by about 80% and 220%, although the 1980s stock market boom had a few choppy interim sub-phases (see chart 1, page 2).
Intuitively, such bullish regimes emerge from great bear capitulations - i.e. they occur when increasing numbers of skeptics finally give up their doubts and pile in to join the rally, driving another multi-year move higher. The current market situation is in that sense reminiscent of the phases of evident skepticism observed in the 1950s, 1970s and 1990s.
Long-term economic sentiment data has a lot of upside left. Secondly, long-term economic sentiment data also suggest that a regular boom is possible in coming years. Notably, US consumer and business surveys have clearly recovered from the depressing depths of the 2008/2009 recession, but the long-term big picture shows that they are still only about half-way to what could still turn into a normal cyclical upswing. In other words, if history is any guide, these economic indicators would also be in line with the above-described equity market signals (see charts 2 and 3, page 2).
Risk of unpleasant policy surprises has diminished. Barring any external shocks or major economic policy errors in the near future, there is no reason for the bull market not to last for a while longer in our view. In addition, the US Federal Reserve’s policy intentions have recently moved in line with markets’ expectations, making disruptive monetary policy surprises less likely than only a few months ago. And market-aligned central bank responses will remain critically important in terms of balancing any short-term external surprises if and when they occur, as the British vote to exit the European Union recently showed.
Finally, it should be noted that LGT Capital Partners’ strategy team has of course taken such benign macro scenarios into account when it designed and set the strategic asset allocation for its multi-asset strategies (see LGT Beacon July 20th, 2017, and page 4).
Note: The next LGT Beacon will be published on 9 November 2016.