One of the most frequent questions at the beginning of this year probably was “what does 2015 hold for S&P 500?” Exante spoke to one of the most experienced traders and fund managers at TradingView.com Tim West. Tim uses a combination of fundamental and technical analysis for trading and during the interview he shared his trading secrets as well as forecasts for S&P 500. Please read first part of this interview here.
What do you see for S&P 500 in 2015? Some of the biggest banks provided their forecasts for S&P500 for the following year end: Barclays, Credit Suisse and Goldman Sachs expect S&P 500 to close at 2100, while Canaccord Genuity sees it at 2340. To your mind, where does the difference come from considering that all of these banks have the same information to base their target on?
I am looking for below that range estimate. Intra-year I am believe it will move up slightly, but if I am to predict a range I would be comfortable with the 2150 for the high in the range and, actually, all the way down to 1700 for the low end of the range. The close of the year I would say 2000. Thus, just a negative year for S&P 500.
When the forecasts are all higher and clustered in a tight range, that alerts me to the idea that there is one-way thinking going on, which is most likely driven by the duration of the current trend and by central bank buying, together with low interest rates (see chart).
I think the variations in the forecasts come from the different earnings estimates they are putting on the underlining companies. We are still trying to grapple with the strength of the Dollar and how that will translate back into earnings in the US.
On top of that, you have the variations in the multiple you would assign to that level of earnings. Many say that if the Fed stops providing easy money, then the price earnings multiples will decline as interest rates rise. I believe we are in an environment where the anticipation of higher rates is coming down the road, and it could be that higher rates from a credit bubble are coming.
Basically, there has been so much debt created that if you go to refinance your debt and you are not in tip-top financial shape, then your rates will start to rise. On top of that, you are going to witness a rise in interest rates to the lower quality borrowers and you are beginning to see that already with the junk bond indices turning down. So, the lower grade credit quality is turning down and it is giving us a sign that the markets are absorbing all of this. Any available funds are being absorbed by companies borrowing the money, and as a result, the additional money that is being borrowed is at higher rates.
I think that the first sign that there is trouble ahead is the anticipation of higher rates, therefore, lower P/E multiples. In addition, the free earnings we have gotten in the last five years from a weak dollar are all turning and going in the other direction.
You can see that essentially if you can predict the level of Margin Debt, you might be able to predict where the market will be (see chart below). However, the cautionary sign is the high level of Margin Debt which implies that people are overcommitted to the market using borrowed funds to get exposure to what has been a strong performing asset class. The question to always ask yourself is “Who is left to buy the market?” and if there is no one else to buy the market, then the question becomes “What will make people sell?” There may not be a good reason to sell in 2015, but I think the market is destined to chop sideways and to go lower on a lack of buying. Marginal selling will keep the downside violent from time to time as margin-players get stopped out. To keep it simple, “When this chart is high, it is NOT time to buy”.
Last year most analysts predicted practically no gain for S&P 500 by the end of 2014 with the average forecast being 1871. However, we are now seeing the index about 10% higher than the provided target. Based on that how difficult it is to make an accurate forecast, to your mind?
It is clear that predicting for human beings is extremely difficult. Even though it is a fool’s game to play, we since we have all agreed to play it, let's give it our best guess. We all thought that the Fed would stop keeping easy money through mid-year, and that most people felt that the Fed would support the market in any declines. It has been a very slow growth environment but what was not expected was for the US to do better than the Eurozone. Therefore we were just sort of looking for a muted return this year after a huge 29% gain the year before in the S&P, and really anticipating the market to hold on to that increase and just let the actual earnings catch up to where the stock market had gone.
Actually, the forecasts were looking pretty accurate a month ago, so this last round of central bank slamming their foot on the gas and with Japan saying they are going to buy equities really created a real rush back into equities. And we have seen that, people are shifting money back into the equity funds.
According to research reports, 50 billion USD came out of the stock market each year from 2009 to 2012, and then last year all of that and double returned into the market. Thus, you can see that there is a little bit of chasing returns going on which you get at the end of a move in the market, where people pile back in. Hence, that is why the market is hard to predict. The psychology that drives buying at these levels because you want to be in the market when it is performing makes me wonder who is left to buy. The S&P 500 companies have used all of their free cash flow to buy shares and that alerts me to higher risk and lower long term returns for stocks.
To read the first part of the interview with Tim West, simply follow this link.