During my tenor on Wall Street, which spans 25 + years, all too often I have heard the catch phrase, “The market appears to be cheap or too expensive“. Usually, this can be heard during times when the market experiences movement of extreme price appreciation, or price depreciation. Unfortunately, this statement is flawed, and brings with it a bevy of misconceived notions.
If for example, a financial professional were to state, “The market is starting to appear cheap”, I would view such a statement as a Yellow Flag. The reason being, most professionals view markets in terms of Price- Earnings Ratio (P/E Ratio). Discussing the notion of cheap or expensive Stocks is often in reference to trailing or future price earnings. Earning’s or cash flow, which is the ultimate measure of a company’s intrinsic value, cannot be the only measure employed when evaluating “the value” of the underlying Stock. Reason being; fundamental information is never readily available on a timely basis – thus causing stale information to lead to lagging price action.
For example, a filing of a current income statement will not price in current macro economic growth rates, policies, or specifically QE3.
If you believe the market, in its entirety, is efficient; then the probability of the market’s value being correct in its current discounting of slower growth will have a negative impact on PE’s, and warrant the current markets discount.
However, when investors observe a market as being “cheap”, are they fully factoring in the Marco trends? These so called Macro factors rapidly adjust price levels, and are another strong argument for why technical analysis / price trend evaluation is vital. Price action (high, low, and close within a daily, weekly or monthly chart) factors in all fundamental news – from balance sheet analysis to Macro trends, in addition to day in and day out trader/ investor activity. It encompasses all information within a pattern, which can then be efficiently evaluated by the market technician.
In our effort to keep an unbiased view, on the current price level of the broad market, we are watching the S&P 500 Index (see below), which we feel the optimal indicator of the overall outlook in the U.S. Equity Market.
CME – S&P 500 INDEX (June) – Weekly Chart
Intermediate Trend (3 Months): Negative
Fridays’ Close: 1124.50 (-19.50)
UPDATE: Our theme has centered on maintaining a weekly settlement above our key pivot point of 1150.00 by the end of each week (Friday settlement – since we are analysing a weekly chart).
As of last Friday the Index failed to hold above 1150.00, and based on that occurrence, this market may come under a fair amount of additional pressure.
Particularly disturbing was the fact the Index struggled to maintain positive territory for a good portion of the trading day, but failed in the late afternoon hours.
It will take some work, but if in fact the Index can gain control and settle back above 1150.00 by the end of the week, that would produce a substantial buy signal. In the meantime, the risk of the Index trading down toward 1060.00 is in play.
For more market analysis, on Crude Oil, Gold, Asian Markets, Sector ETF’s and Heavy Volume Stocks visit www.thechartlab.com