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Market’s divergence from reality

Last week the Federal Reserve lowered 2015 GDP growth estimates (again) to a meager 1.8-2.0%.  That’s more than a 30% drop from estimates made at the beginning of the year.  Yet the market rallies with the NASDAQ hitting all-time highs.

Enthusiasm on Wall Street persists because the lack of growth ensures low interest rates…allowing mal-investments to prop up a distorted global economy.

The below charts illustrate how distorted the market is.

In a normal business cycle, commodities rise with the market until speculation causes commodity prices to outpace what the market can realistically afford.  [Remember 2008 when peak oil hysteria caused oil to hit $147/barrel?]  The market quickly falls from “boom” to “bust”.

Central Bank Quantitative Easing has distorted the traditional business cycle, as noted in the chart where in 2013 the market begins to diverge from commodity prices.  The market recovers from the recession and goes on to make all-time highs; while commodities fall to near recession lows.

Ahhhh…but you’re saying that of course with lower commodity prices, then corporate profits would rise thus justifying an increasing stock market.

Yet, in real terms corporate profits didn’t rise.  Consider corporate profits in terms of the cost of a barrel of oil- profits were flat from 2011-2014 at around 0.75-1 barrel of oil.  The 2015 spike upward wasn’t due to an increase in earnings but rather a collapse in oil prices.

The spike has now peaked.  As it did preceding the Dotcom and Housing bubbles.

What’s different this time is the ongoing quantitative easing occurring globally.  The question remains- will cheap money spur the economy along to allow corporations to take advantage of low commodity prices or are low commodity prices the harbinger of a market correction?

We’ll have to wait and see.

S&P500 divergence from Commodities 150622

S&P500 earnings expressed in OIL 150622


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