The stock market is continuing its rally from market lows early in 2009. To many free market economists, the stock market is seen as a harbinger of sentiment concerning the future of economic growth. This has created jubilation on the part of many journalists and investment advisors, based on the belief that current stock market returns are predicting a robust economic recovery. However, deeper analysis of this rally shows that it is heavy on ‘hopes and dreams’ while unfortunately light on fundamentals.
Analysis of the relationship between the S&P 500 market price and the earnings per share or dividends per share shows a much different picture. Over the last 15 years, the ratio of prices to dividends reached astronomical levels. This indicated a shift of market sentiment away from the fundamentals that drove earnings and dividends toward speculation on future appreciation as the primary driver of value in the stock market. This phenomenon is also evident in the cycles of expansion and contraction in the P/E ratio for the S&P 500 index.
The recent market turmoil has escalated P/E ratios to unseen levels that will require dramatic increases in earnings for the current price levels to be supported by fundamentals. The ratio of prices to dividends are also still very high relative to the historical average, communicating that market sentiment is still firmly in the camp of valuing the market based on the anticipation of future value appreciation instead of the fundamentals that drive earnings and the dividends that are paid out of earnings.
All of these trends point toward a further perpetuation of value bubbles, market crashes, nominal recoveries that create more bubbles. Furthermore, these market cycles are likely to increase in severity over shorter and shorter time horizons. The reason for this is a near complete disconnect between market values and economic fundamentals. As this fracture continues to widen, it will result in market values fluctuation wildly.
Another major factor in these anticipated fluctuations is the government exercising its monetary authority to finance deficits by expanding the money supply. (also known as ‘monetizing the debt’) It is likely that future nominal value contractions will be ‘eased’ by infusions of new money by the government. This will result in nominal value fluctuations that look moderate, but real value going down precipitously because of the dollar’s progressive weakening, due to expansionary monetary policy.
http://www.CreatingWealthPodcast.com & https://www.jasonhartman.com