By last week, most pundits were convinced: The economy was headed for a v-shaped recovery, and the market was already 50% into a great new bull market.
Anything’s possible. But both theories still seem unlikely.
First, we have yet to hear a persuasive explanation for how consumer spending is suddenly going to start growing at 3% a year again, and consumer spending still accounts for a staggering 70% of the economy.
More likely, in our opinion, consumers will continue to shed debt and boost savings, with consumer spending ultimately settling back to its usual 65% contribution to the economy. This deleveraging process will likely act as a drag on economic growth. (Below, Ned Davis charts household debt to GDP. Note where we still are relative to the long-term average).
The stock market, meanwhile, is already 10%-15% overvalued on normalized earnings. Again, anything’s possible, but we don’t see why stocks are likely to go rushing back to an extended period of over-valuation. More likely, given the challenges facing the economy, they’ll go through a multi-decade period of under-valuation–just as they have after every other major bull market peak. (See professor Robert Shiller’s chart below).
Even if the market doesn’t crash, the better part of its gains for this cycle are likely behind us. As Doug Short’s chart of four big bear markets illustrates, even in the happier recoveries of the 1970s and the 2000s the market moved sideways for years after the initial bounceback.
So is it possible we soar up another 50% from here? Yes, anything’s possible. But it doesn’t seem likely.
More likely, we’re in for another nasty correction or years of treading water, as the v-shaped recovery proves less vigorous than the market now thinks it will be.
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