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1/With the NIPA GDP release this AM came 1st cut of 1Q corporate profits. This series showed a substantial sequential decline which in my model logic moves my allocation to a secular bear schedule. This chart illustrates NIPA profit margins
2/With this update, and re parameterizing the core statistical model, my models fair value projections are now updated and 1Q21 is projected at SPX 1765, vs Current FV of 2260. The following chart illustrates SPX vs FV
3/This chart shows that economy wide corporate profits supporting valuation have not grown meaningfully for some time yet SPX has continued to rise. With the latest drop in FV relative valuations will rise moving forward, without price declines.
4/Persistent declines in FV have in the past been associated with persistent draw downs in equity prices. With this the model flips to 100% short and will stay that way for some time. This chart shows the two allocation schedules. At these valuations the 2 schedules are close
5/So what does this mean? It does not mean I am predicting the market will drop today, this week or even over the next few months. It just means that the environment, based on past observation is not conducive to substantial increases in equity prices over a 6-18 month period
6/It implies meaningful downside is possible, particularly if the decline in margins persists moving forward. There is always the potential that this signal gets whipsawed by substantial recoveries in margins, but 2Q'20 is most likely to see further declines
7/If margins stay level from here my model would not flip back to bull mode until 7/1/2022. Of course if equity prices decline sufficiently it is possible for allocations to equities to get less bearish as valuation always plays a role.
8/PLEASE make your own conclusions as to how you want to allocate your capital as your investment goals and timelines can vary substantially from mine. This is presented for perspective only
