Dollars and Sense: Is the raging bull about to hit a wall?

Bull keeps charging. The NASDAQ is at levels we haven’t seen since March 2000. The Dow and the S&P 500 are back to record levels. It’s easy to get lost in the numbers. News guys like me too often say things like, “the markets went up today and here’s why,” or “the markets went down today and here’s why,” when the reasons for rises and declines are complex and sometimes don’t show themselves right away. But it doesn’t take a genius to observe the stock market’s performance for the past few years has approached or broken historical precedents. In 2014, for example, the S&P 500 hit 53 record highs. Only three years in the history of the stock market have done better in that metric: 1995 during the tech boom, 1964 during the height of the post-war baby boom, and 1928.

Overvalued? That last year cited, 1928, was the year before the Great Depression. No one, other than those on the fringes, say we’re approaching another Great Depression. But we are beginning to get signs that this market is overvalued. The price-to-earnings ratio of the S&P 500 has historically been about 15. The current price-to-earnings ratio is just under 20, a full 30 percent above the historical mean.

An obscure indicator. Another indicator I’ve gotten interested in lately is the price-to-book value of a stock. During the Great Recession, a lot of companies hoarded cash. Along with depressed stock prices, the hoarding meant the price-to-book value for the S&P 500 was well below the historical mean. When that number rose to the mean, it showed companies were spending again. In the last couple of years, that number has risen back above the historical mean. It’s now approaching levels seen in 2007 and 2008, when balance sheets were over-leveraged, a condition which led to the Great Recession.

Ominous? I’m neither the prophet nor the son of a prophet. I report. I don’t predict. And I will say earnings season has been good. With 76 percent of the S&P 500 reporting, about 71.4 percent of companies have topped earnings expectations, according to Thomson Reuters data. That’s significantly above the long-term average of 63 percent. Increasing the earnings denominator is one way to drive down the price-to-earnings ratio. So it’s possible that that the numbers I’ve been mentioning will revert gently back to the mean. But it’s normal to see stock corrections of 10 percent or more when you’re in a bull market. We haven’t seen such a correction in years. Put plainly, if history provides any guidance, we’re long overdue.

The week ahead. The eyes of the world are still on Greece. News of a deal between Greece and its creditors likely will be greeted with an uptick in the global markets. Here at home, it’s kind of an average week for government reports. We’ll get housing starts and factory utilization reports this week, but they don’t usually move the markets that much. We’ll be getting a number of retail company earnings reports in the next week or so, and those reports will be helpful in determining consumer confidence and how earnings season will end up.

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