Jun

19

SP futures implied financing rate 5.62%
Sep/Jun spread = 45 points
SP Earnings Yield = 4.85%, -0.95% Real
10Y Yield = 3.72%, 1.55% Real

Interesting to consider that during the previous regime, people were very bullish with the adage of "stocks carry themselves". What do they say now?

Steve Ellison comments:

Speaking as one of those who said, "stocks carry themselves", stocks are not carrying themselves now. The dividend yield on the S&P 500 is about 1.6%, compared with the 3-month Treasury bill yield of 5.2%. It is now a different point in the business cycle as outlined by Philip L. Carret in his 1931 book The Art of Speculation (I have the version republished by Wiley in 1997 with a foreword by the Chair).

Business cycles don't always follow the textbook script, but if I had to guess, the likely next steps are a slow-motion banking crisis (as depositors one by one compare their banks' interest on deposits with the aforementioned Treasury bill yield) and recession.

Mr. Carret appeared on Wall Street Week at age 98 in 1995. At 1:40 in this video:

Louis Rukeyser: What do you do, given your experience, when you think there may be too much froth, when you think there may be a major correction, even a crash? Do you sell all your stocks?
Philip Carret: No, I really don’t do anything … I’ve seen a lot of recessions, and I can live through them, and I can do it again.

Hernan Avella replies:

Thanks Steve. I believe looking at the dividend yield only is folly. You need to add the buybacks (Known as shareholder yield). Currently @ 4.62%.

Steve Ellison responds:

It is worth noting that, based purely on the S&P 500 dividend yield, stocks never carried themselves for 50 years from 1958 to 2008. Nevertheless, the upward drift continued, and there were many bull markets during that time.

I reviewed the Art of Speculation here on December 13, 2007, 49 years into the period of stocks never carrying themselves, noting that it might be difficult to follow the advice to buy when stocks carried themselves. Here is an excerpt:

"Borrowed money is the lifeblood of speculation" (p. 101). Interest rates greatly influence the direction of stock prices. "A bull market undermines itself" (p. 119) as prosperity and increased borrowing for speculation drive up interest rates. One of Mr. Carret's specific methods might be difficult to replicate today. He suggested borrowing money when interest rates were low to buy stocks with higher dividend yields than the interest rate on the borrowed funds. A stock bought in this fashion would "carry itself" and have a high probability of moving higher. With today's much lower dividend yields, such stocks are probably difficult to find today.

Hernan Avella writes:

Some YTD figures [as of 13 June]:

Semiconductors (SMH) +51%
NQ100 + 36%
Commodities -8.98%
Low Vol Sp500 stocks -2.19%
Emerging Bonds, local currency +6.5%
European "Growth" stocks +15%

What happened with the bears in this list?

H. Humbert responds:

What happened? Nothing happened, wrong so far. Old favorites never lead a new bull market, but they are now. Saw an article today, people are cutting back on fries at McDonald's but that doesn't seem to matter. Semis are going gangbusters, but they're not hiring. Anyway, I never sell and buy when I see value regardless of "the market". Bought my first stock of the year two weeks ago.

Humbert H. adds:

Hernan, if you go down the route of buybacks you need to account also for stock issuance, employee options, M&A/deletions from the index, IPOs/additions to the index etc to estimate the net buyback yield. This way it is apples to apples. If you do that you will get a small positive number <1% (you prob want to smooth out considering that buybacks are cyclical).

Tim Melvin comments:

Buybacks and debt reduction play no role in determining of stocks are a carry trade. Cash received versus interest paid.

William Huggins comments:

the free yield on buybacks has been the manipulation of earnings downward prior to announcement of said buyback (and subsequent restoration). its generally done in a small enough amount that its hard to pick up individually (but shows up plainly in large samples). (chair mentioned this back in 2007 i think?)


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