The Bull Market: Six Years Old And Not Over

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1 The Bull Market: Six Years Old And Not Over April 22-24, 2015 FOR PROFESSIONAL USE ONLY. FURTHER DISTRIBUTION OF THE INFORMATION CONTAINED HEREIN IS PROHIBITED WITHOUT PRIOR PERMISSION.

2 Disclosures This report is not a solicitation or offer to buy or sell securities. The Leuthold Group, LLC provides research to institutional investors. It is also a registered investment advisor that uses its own research, along with other data, in making investment decisions for its managed accounts. As a result, The Leuthold Group, LLC may have executed transactions for its managed accounts in securities mentioned prior to this publication. The information contained in The Leuthold Group, LLC research is not, without additional data and analysis, sufficient to form the basis of an investment decision regarding any one security. The research reflects The Leuthold Group, LLC s views as of the date of publication, which are subject to change without notice. The Leuthold Group, LLC does not undertake to give notice of any change in its views regarding a particular industry prior to publication of their next research report covering that industry in the normal course of business. The Leuthold Group, LLC may make investment decisions for its managed accounts that are inconsistent with, or contrary to, the views expressed in current Leuthold Group, LLC reports. Weeden Investors, L.P., Weeden & Co., L.P.'s parent company, owns 22% of Leuthold Group s securities. A Managing Director of Weeden & Co., L.P. is a member of The Leuthold Group, LLC board of directors. Weeden & Co., L.P. member FINRA, NASDAQ, and SIPC. 2

3 Major Trend Index remains mildly positive POTENTIAL WEIGHT THIS WEEK CURRENT NET READING Net Intrinsic Value No Change Economic/Interest Rates/Inflation Gain Attitudinal Gain Supply/Demand Loss Momentum/Breadth/Divergence Loss BALANCE : +182 (+206 Last Week) *RATIO: 1.13 (1.15 Last Week) *Total Positive Points : Total Negative Points. (0.95 to 1.05 is a "Neutral" reading.) 3

4 Market advance has been broad, which is near-term bullish NYSE Daily Advance/Decline Line - All Issues New highs in mid-april NYSE Daily Advance/Decline Line - Stocks Only x x S O N D 2014 M A M J J A S O N D 2015 M A M 4

5 New high in breadth suggests bull market life expectancy has been pushed out No. Of Weeks Gain Date Of Peak In From Breadth From Breadth NYSE Breadth Date Of Bull Market Peak To Peak To (Daily A/D Line) Peak In Market Peak Market Peak May 14, 1928 September 7, % January 21, 1937 March 6, A/D peaks 2 trading days after S&P November 12, 1938 November 9, A/D line and peak on same day May 29, 1946 May 29, March 15, 1956 August 2, May 17, 1961 December 12, May 6, 1965 February 9, August 2, 1967 November 29, April 28, 1971 January 11, A/D line peaks months after S&P July 22, 1977 September 21, September 11, 1978 November 28, March 23, 1987 August 25, August 8, 1989 July 16, April 3, 1998 July 17, January 6, 1999 March 24, June 4, 2007 October 9, Median: % 5

6 The Taper Caper Fed QE taper begins Consumer Discretionary - Total Return Relative Strength (right scale) Russell 2000/ Total Return Ratio (right scale) Taper ends A S O N D 2014 M A M J J A S O N D 2015 M A M 6

7 Transports weakness could be an early warning sign (right scale) Dow Jones Transports/Industrials Relative Strength Ratio (left scale) A M J J A S O N D 2015 A M J 7

8 Spreads sniffing out trouble 2007: Credit Leads Stocks BofAML High Yield Spread (left scale - inverted) (right scale) : Credit Leads Stocks?? BofAML High Yield 5.6 Option-Adjusted Spread 8.4 (left scale - inverted) Nov Dec 2007 Mar Apr May Jun Jul Aug Sep Oct Nov Dec 2008 Mar Apr May Ju 014 Mar Apr May Jun Jul Aug Sep Oct Nov Dec 2015 Mar Apr May stock market peak (to date) on March 2nd credit peak on June 23, 2014 (right scale)

9 The hated bull market? "Average" Sentiment Levels In 2014 Were The Second-Highest On Record Investor's Intelligence Bulls As A Percentage Of Bulls Plus Bears (Annual average - left scale) (Annual close - right scale) 2014 avg. = 76.3% A 9

10 High Sentiment Years & Subsequent Market Action Ten Highest Average Sentiment Years 1976 Average Sentiment Reading 83.7 % Subsequent Year Gain Or Loss In % ? Average Return: 0.1 %

11 Bull markets have frequently topped near current valuations Normalized Date Of P/E At Bull Bull Market Peak Market Peak December 31, x February 28, November 29, January 31, September 29, November 29, August 31, July 31, July 31, March 31, October 31, April 29, Median At Modern Era Bull Market Peaks (1957 To Date): 20.8 x March 31, x 11

12 Even forward P/E ratios look pricey Forward P/Es Now Far Above Levels Seen At Last Bull Market Peak Oct07 = 14.6x Mar15 = 16.6x MSCI World P/E on 12-Mo. Forward EPS MSCI USA P/E on 12-Mo. Forward EPS Feb15 = 17.3x Oct07 = 15.4x October 31, 2007 (month-end peak of bull market) 12

13 Stock market is broadly overvalued "Median" Stock Pricier Than At 2000 & 2007 Peaks P/E on 12-Mo. Trailing EPS x Median Net Profit Margin March % October % 19.2x 18.8x March % Mar 2000 Oct

14 Earnings are phenomenal! Oh, really? Despite record-high profit margins and aggressive, price-insensitive share buybacks, Reported EPS remain about $30 below the level projected by their trend Trailing 12-Month Reported EPS (latest = $2.32)

15 Rest of world looks cheaper; Opportunity or value trap? Normalized P/E Ratios: U.S. Vs. Rest Of World MSCI USA Index x x (World Ex USA) 12.2x (Emerging Markets)

16 A pair of bullish time cycles are coinciding The Stock Market's Annual & Presidential Cycles Combined: Annualized Total Returns, 1926 To Date Post-Election Year Mid-Term Year Pre-Election Year Election Year 24.7% Nov-Apr 8.4% Nov-Apr 5.8% May-Oct 12.9% Nov-Apr 1.1% 9.4% May-Oct 8.7% Nov-Apr 11.0% May-Oct May-Oct We are here. 16

17 More stock market numerology Pre-Election Years Dow Jones Industrials In Statistically Favored Years (1898 To Date) (DJIA Performance Figures Are Price Only) % % % % ? ? ? Average: 20.3 % ? Average: 44.7 % ? Average: 34.6 % ? Average: 12.3 % All Years ( ) 7.6 % 17 Years Ending In "5" Pre-Election Years Ending In "5" Years Preceding A Bush/Clinton Election

18 Recessions rarely catch the stock market by complete surprise A Strong Stock Market Suggests Recession Risk Is Minimal... U.S. Industrial Production (Arrows/vertical lines highlight NBER business cycle peaks.) Mo. Pct. Chg. In Real (Figures below show level in month of business cycle peak) Avg. at last 11 business cycle peaks = -6% -3% -9% -7% -18% -26% 0% -3% -2% -26% -1% -9% Mar = +12% The year-over-year change in real stock prices has been either flat or negative at all post-wwii business cycle peaks. Near-term recession risk looks very low on this basis. 18

19 Simple economic gauge remains bullish Vs. ISM "Liquidity" Index ISM Liquidity Index = New Orders Index Minus Prices Paid Index Percent Of Annl. ISM Liquidity Index Time Returns Above % 14.0 % Between 0 And Between - And Between -20 And Between -30 And Below Analysis for February October 2014 period. Above + = maximum bullish for stocks Below -30 = maximum bearish for stocks

20 Commodities: The problem is supply. Leuthold 3000 Energy Sector: Capex/Depreciation Ratio The Leuthold Group Leuthold 3000 Materials Sector: Capex/Depreciation Ratio Both series are weighted medians

21 Oil s plunge in perspective Real Crude Oil Price (Ratio, Monthly Avg. Crude Oil Price to Consumer Price Index) 1973 (OPEC Embargo)- To-Date Median = To-Date Median =

22 Why real oil prices matter Energy Stocks Track Real Oil Prices WTI Crude Oil Deflated by CPI (left scale) S&P Energy Sector Composite Relative to (right scale)

23 Energy: Should you catch the falling knife? The "Cheapest Sector" Annual Strategy Cheapest Sector Strategy Total Last Year's Total Return Lowest P/E Sector Return % Financials 49.1 % Financials Financials Financials Financials Financials Utilities Utilities Materials Utilities Telecom Services Energy Utilities Energy Energy Financials Energy Financials Energy Utilities Utilities Financials Industrials Financials Energy Annualized: Total Return.2 % 16.9 % Std. Deviation 18.4 % 24.1 % No. Yrs. Outperforming : 16/24 Correlation With (Annual Returns): 0.67 Results assume annual rebalancing of sectors; numbers include dividends, but exclude transactions costs. 23

24 Long-term leadership from Technology? Technology Sector Relative Strength (right scale) AC World Technology Relative to ACWI Index (left scale)

25 Technology bubble? Far from it Techology Relative P/E on 5-Yr. Normalized EPS Techology Relative Price/Cash Flow

26 Apple in perspective Companies To Have Reached A Four Percent Weight In The, 1990 To Date ( and how long they were able to stay there) 12 months above 4% Microsoft months General 1.5 Electric month Cisco Systems months Exxon Mobil Apple months 1 mo % % % % % %

27 Asset allocation: Beware of bottom fishing T O T A L R E T U R N A Simple, Single-Asset Annual Allocation Strategy: Select From Among Seven Asset Classes Using Last Year's Performance Rank, Assets Included In Analysis: Russell 2000 MSCI EAFE NAREIT Composite U.S. -Yr. Treasury Bonds S&P/GS Commodity Index Gold = +.3%/Yr. (%) 2 0 Best Performing Asset Second Best (Bridesmaid) Third Best Fourth Best Fifth Best Sixth Best Worst Performing Asset 27

28 Asset allocation: Own last year s runner-up asset class during the following year 2015 Bridesmaid 2014 Total Return REITs (NAREIT Index) 27.1 % Yr. U.S. Treasury Bonds.7 Russell Gold -0.2 MSCI EAFE -4.5 Commodities (GSCI) Year Total Return Bridesmaid Asset Class Owned During Year Bridesmaid Strategy (Own Previous Year's Runner-Up Asset Class) Total Return % Commodities 75.0 % Gold Commodities Large Caps REITs Gold EAFE Small Caps Large Caps Govt. Bonds REITs REITs REITs Large Caps Govt. Bonds Commodities Commodities Large Caps Govt. Bonds REITs REITs Small Caps Commodities Small Caps Commodities Small Caps EAFE EAFE REITs Govt. Bonds Gold EAFE EAFE Gold EAFE Gold Gold REITs REITs Gold EAFE Large Caps Large Caps , Annualized Total Return % Std. Deviation No. Years Matching Or Exceeding : 28/42 Correlation With Annual Returns:

29 Bridesmaid has been a winning sector strategy, too 2014 Sectors Total Return 2015 Utilities 29.0 % Bridesmaid Health Care 25.3 Information Technology 20.1 Consumer Staples 16.0 Financials 15.2 Industrials 9.8 Consumer Discretionary 9.7 Materials 6.9 Telecom Services 3.0 Energy % Sector Bridesmaid Bridesmaid Strategy Total Sector (Last Year's Total Return Second Best Sector) Return % Consumer Staples 41.7 % Financials Consumer Discretionary Industrials Health Care Financials Financials Health Care Telecom Services Materials Health Care Consumer Discretionary Materials Materials Utilities Utilities Energy Materials Health Care Materials Industrials Consumer Staples Consumer Discretionary Health Care Health Care Annualized: Total Return.2 % 14.9 % Std. Deviation 18.4 % 24.8 % No. Yrs. Outperforming : 15/24 Correlation With (Annual Returns): 0.94 Results assume annual rebalancing of sectors; numbers include dividends, but exclude transactions costs. 29