Stock Market Forecast: Weak 2nd Half for 2015

Think flat.

Most probably the U.S. stock market will end 2015 just about where it is now, or a shade worse.  The odds of at least breaking even in the market are middling, a little below average. The stock market has performed near the predictions of my 6 month forecasting models for the last couple of years -- meaning that no major unexpected forces appear to be moving prices. Therefore, the model predictions for the next six months are probably credible.

U.S. Stock Market Forecast (Value Line Arithmetic Index):
Probable stock market gain 5/1/2015 to 11/1/2015: 0% (Avg. 6 mo. gain since 1984: 4.8%)
Probability of at least breaking even : ~ 60%   (Average for all months since 1984: 73%

Normal seasonality has a role in the weak forecast, but the gradual weakening of the bull market that has run since early 2009 is the dominant market factor now.  The graph below from StockCharts.com compares the relative performance of the S&P 500 (IVV) to 7-10 year Treasury Bonds (IEF) since the start of  2013.  The story is simple: stocks have performed much better than bonds, but stocks seem to be running out of steam.

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Link to chart

As shown in the chart below, our market forecasts have been weakening over several months.

For the most recent 6 month period, the market gained about 9 % while our model expected roughly 7% gains. Close enough.

Test posting

Hi,

There may be a problem with Google emailing copies of my Six Month Stock Market Forecast posts.  This post is just a test to see if their system is working.

You probably missed my post for April -- basically an expectation of positive, but below average gains for the coming 6 months.

Thanks for your patience.

Tom

April 2015 -- Below Average Stock Market Gains Coming

Following its normal pattern, the stock market had above average gains over the first part of the winter. Sadly, the stock market probably will have below-average gains over the next 6 months. Not horrible, just weak.

The chart below shows that for the past year or so the U.S. stock market has been tracking our forecasts rather closely.  In the last 6 month period, for example, the market rose 9.4% and our models had predicted an 8% rise -- close.

The fairly close match between our forecasts and the stock market is not much of a surprise. After all, the models are based statistically on how the stock market has responded to a number of key macroeconomic factors over the past 30 years. And, that is good news -- the market is responding normally to basic economic conditions. (measured based on the Value Line Arithmetic Index.) Nothing really unusual seems to be going on.

What's up in the next half year? Mild disappointment. Sorry, the market is now fairly pricey and statistically the summer months yield somewhat lower gains than the colder months.

U.S. Stock Market Forecast (Value Line Arithmetic Index):
Probable stock market gain 4/1/2015 to 10/1/2015: 3% (Avg. 6 mo. gain since 1984: 4.8%)
Probability of at least breaking even : 60% to 70%  (Average for all months since 1984: 73%

(Click on image to enlarge.)

Falling Margin Debt: Good or Bad Sign for the Stock Market?

Total Margin debt as reported monthly by the the New York Stock Exchange has fallen about 4% over the past 7 months.  Depending on how you want to look at the long term record, this could be a very bad omen, a pretty good one, or just a non-event.  I tend to see it as probably a positive sign, but nothing of immediate importance.

Margin debt is money that investors borrow from their brokers at fairly high interest rates in order to buy more stock than they otherwise could. As such it is a good indication of investor enthusiasm.  In a stock boom speculators buy all the stock they can and total margin debt shoots up. In a bear market those same speculators sell out in panic, the brokers get paid back, and margin debt levels plummet. Falling margin debt shows a drop in investor enthusiasm and optimism so it is hard to regard it as bullish.

Here's the scary view reported by Mark Hulbert at MarketWatch.com as a wake-up call on the bull market.   Since 2000, every time the level of margin debt has dropped below its 12 month moving average the stock market has been in a bear market. With the newly released January data, margin debt is now below the 12 month average -- and so that must be very bad news.  Right?

Taking the opposite view, the drop in margin debt may well be a very healthy sign for a continuing bull market.

Looking at the NYSE data going back to 1970 margin debt has shown an amazingly steady rate of growth.  Comparing actual margin debt to a constant rate of growth yields a pretty close fit. (Rsquared = 0.96)  That is not much of a surprise as the overall economy and the stock market have also had relatively steady long term growth. We all tend to focus on all the ups and downs, but overall the bumps of the economy and the stock market are dwarfed by long term, multi-decade growth trends. The same is true of the growth of total margin debt over time.

The graph below shows detrended margin debt over time -- relatively how much actual margin is above or below its historical growth pattern. The graph pattern is clear: in a boom the relative level of margin borrowing shoots up, perhaps 50% or more above the historic trend. Then the bubble pops and margin debt collapses even more quickly during any sort of market crash.  The dates of the margin spikes match the start of the most significant market disturbances over the past several decades.  The warning sign is clear -- when the relative level of margin debt shoots up to  roughly 50% above trend a market bubble is due to implode.

But what about now?  Margin debt has been growing in fits and starts since the catastrophic bottom of early 2009.  The rise doesn't resemble any sort of spike and is still well below its long term trend.   Rather than pointing to an imminent bear market, this chart of margin debt appears to indicate that the market is far from being in the middle of a speculative bubble. If history is to play out in a typical way, it may well be a few years before a speculative bubble shapes up.  If it does, the slow moving growth of margin debt should scream our a warning when it spikes up.

March, 2015 U.S. Stock Market Forecast

U.S. Market Forecast (Value Line Arithmetic Index):
Probable stock market gain 3/1/2015 to 9/1/2015: 3.5% (Avg. 6 mo. gain since 1984: 4.8%)
Probability of at least breaking even : 73%  (Average for all months since 1984: 73%

Coming off a strong 5% gain during February, the prospects for further stock market gains over the next half year are subdued: positive, but below average price gain of 3% to 4% and average probability  (73%) of at least breaking even. Looking at the progress graph below, the model would expect gains to continue for a few months followed by a bit of weakness during the summer months as is typically the case.

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The model has been anticipating the stock market pretty closely for the past year or so.  In the last completed 6 month period the model had predicted a gain of roughly approximately 6% and the actual gain turned out to be about 4%. Close enough.

The overall U.S. stock market situation has stayed roughly the same for a couple of years:

• U.S. stocks generally are somewhat over-priced.
• Historically low interest rates, however, prop up these high stock prices.
• Further real economic growth is necessary before stocks can rise much.
• Room for growth remains as the economy is still performing below its long term potential.
• Based on the amount of outstanding margin debt and continuing economic recovery a price bubble does not appear to exist.
• In the near term international economic disruptions do not seem likely to severely damage the U.S. economy. (e.g. Greek debt questions, low oil prices possibly unbalancing several countries)

Taking all of this into account, a major stock market decline does not appear to be likely for at least a year or so.

February, 2015 Six Month U.S. Stock Market Forecast

2015 has gotten off to a weak and volatile start with the S&P 500 off about 3% during January. Volatility is back -- the market has fallen and worked at recovering 4 times in just this first month. Despite this weakness, the macroeconomic mathematical models reported on here expect slightly better than average market gains for the next 6 months.

U.S. Market Forecast (based on the Value Line Arithmetic Index):
Probable stock market gain 2/1/2015 to 8/1/2015:  7%  (Avg. 6 months gain since 1984: 4.8%)
Probability of at least breaking even : 80%  (Average for all months since 1984: 73%)

The U.S. stock market has tapped nearly all of the quick gains that came with recovery from the Great Recession.  From here on the gains are likely to be about average and depend on solid gains in the real economy.  With the scale of probable gains getting smaller the relative importance of market volatility grows.  Translation: Look for a very bumpy ride with fairly low pay-off.

Keeping track of how well these models are performing, over the past 6 months the market (using the Value Line Arithmetic Index) gained 3.5% while the prediction had been for roughly a 7% gain.  I'll call that a win: the model expected relatively modest market gains and that is what occurred.  The models used here are not expected to be highly accurate.  Their sole purpose is to give early notice of major market gains or losses, hopefully several months in advance.  Time will tell if the models can do that.

2015 U.S. Stock Market Forecast: Climbing the Wall of Worry

2015 should be a thoroughly average year for stocks.  My macroeconomic models predict modest stock market growth through 2015, and see no reason the path during the year to be any smoother or more volatile than normal.  Negative market surprises, if they hit, will most probably be during the second half of the year.  A boring year would be wonderful!

The stock market, of course, will do what it 'wants', regardless of these predictions. That said, the model has performed well since 2007, so its forecasts may be worth paying attention to.

The tremendous multi-year stock market recovery from the depths of  "The Great Recession" is almost complete. More years of strong double-digit gains grow less and less probable.  On the other side of the coin,  serious action by the Federal Reserve to damp down the economy is still about two years away. Until then, a routine bumpy upward path for the U.S. stock market is the most probable future.

U.S. Market Forecast (based on the Value Line Arithmetic Index):
Probable stock market gain 1/1/2015 to 7/1/2015:  5% to 6%  (Avg. 6 months gain since 1984: 4.8%)
Probability of at least breaking even : 75%  (Average for all months since 1984: 73%)

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What drives this typical stock market prediction?

Regression to the Mean: The Value Line Arithmetic Index that my models follow includes over 90% of U.S. corporate activity, but because of the way companies are weighted, it is much less influenced by speculation than more popular indexes like the Standard & Poor's 500.  As a result, it follows a much steadier growth pattern than other indexes. The  Value Line Arithmetic Index is now near its long term trend making growth at normal rates very probable. The next 3-5 years should also yield typical market growth.

Continuing Moderate Economic Growth:  The 3rd quarter of 2014 produced surprisingly strong economic growth.  That may well be an exception caused, perhaps in part, by dramatically falling oil prices.  The longer term growth trend has been fairly slow and GDP remains below potential.  There is  room for economic growth.

Small Chance of Recession:  The stock market responds poorly to economic disruption. The metrics I track show few impending tornados on the economic horizon. Eventually, of course, the Federal Reserve will bring on the next recession by sharply raising interest rates. However, a large increase in rates is probably 2 - 4  years away.  Interest rates are still at historical lows and the Fed is only expected to make its first interest rate increase in mid-2015.  My expectation is that when the rate increases begin they will move very slowly.  So much long term money has been borrowed at current very low rates, a sudden increase would destabilize the economy much more than the traumatic shocks of of 2006-2008.  I wouldn't be surprised if mid-year the Governors of the Fed intentionally try to deflate markets a tad with some hawkish comments. Certainly they would rather do that than to cause actual serious disruption to the 'real' economy.

Plenty of Gray Swans Floating Around:  A true black swan can always appear on the world scene. But, that is a rare event (by definition).  Instead, there are plenty of major potential economic positive and negative possibilities.  The ones that I see developing do not appear likely to bring major disruption in the near future.  There are countless observers following each of today's gray swans.  As a result, major sudden surprises become less likely.

Speculation Has Not Exploded Yet:  Historically, margin debt has proven to be a reliable indicator of stock market speculation.  So far, it is nowhere near the level that typically flags collapse of a speculative bubble.

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Best wishes for a happy and prosperous New Year!