I am of the opinion that the S&P 500 index is likely to decline by at least 10% to 15% in the coming months. In my view, this decline is likely to come sooner than later. I therefore advise caution and investors who are sitting on gains can consider some profit booking.
In the recent past, I have discussed several factors that are likely to be bearish for equities and these factors include earnings recession, global growth slowdown and potential recession in the United States towards the end of 2016.
This article plots the S&P 500 index with 10-year Treasury yield and there are some important conclusions from that chart.
The chart is from October 2015 to April 5, 2016 and it’s worth noting that up to the period of March 11, 2016, the bond yields and the S&P 500 index were moving largely in sync. However, after March 11, 2016, bond yields have continued to decline while the S&P 500 continues to trend higher.
I have the following conclusions –
1) The decline in bond yield to levels even before the first rate hike is indicative of “risk-off” trade as market participants seek refuge in Treasuries and gold in uncertain economic conditions.
2) The bond yield on the 10-year bond is lower than the levels seen during the first rate hike in December 2015 and I believe that this is a clear indication that the fed is likely to cut rates in the foreseeable future back to near-zero levels.
3) While equity markets have trended higher after a correction of 11% in the beginning of 2016, I see this rally as “False Rally” and I don’t expect the rally to sustain.
4) Investors can expect at least 10% to 15% correction in the S&P 500 index from current levels and I believe that this correction will be a catalyst for the fed to cut rates to zero.
5) In-line with correction in US equities, I also expect correction in global markets and investors will be better-off invested in Treasuries, cash or gold for the next 3-6 months.
While pumping more money in the financial system can revive market sentiments, I expect earnings to disappoint through 2016 with nearly 25% of S&P 500 earnings coming from outside the United States. Therefore, even if the US economy were resilient amidst global slowdown, the S&P 500 earnings growth number can potentially disappoint in 2016.