The stock and bond markets have given several very negative long term signals in the past month.
First, the long term monthly MACD has rolled into negative territory on many indexes. Both the NASDAQ and the Wilshire 5000 have turned negative. While this signal is a slow and trailing indicator, for long term investors it has paid to heed it’s signals. The long term MACD will never get you out at the top and in at the bottom, but it will keep you out of trouble as it did in 1991, 1994 and 2000-2002. It did get whipped around in 1997 and 1998 but that’s a small price to pay if you have a longer term timeframe.
Second, and possibly more disturbing, is a break of the long term trend line on the US 30 Year Bond. The following chart shows the Long Bond Price – yields move inversely to price – so as the price drops, interest rates rise. A long term up trend has been in place since 1982. A secondary up trend has been in place since 1988 and this trend is now broken.
This is potentially a very negative development for both the equity and bond markets. Lower interest rates provided a strong tailwind for equities in the late 1990s. Lower interest rates help equity prices in several ways. First, lower interest rates reduce the cost to borrow money (or the cost of capital), which allows for cheap expansion of operations and gives companies higher net income margins. Second, lower interest rates are a key component in valuing long term assets using discounted cash flow model. As interest rates decline, the value of most long-term cash flows increases (this is a bit too lengthy a topic for me to discuss here but www.investopedia.com has several good articles on the topic of interest rates and equity prices.) But the opposite occurs with higher interest rates. Higher interest rates increase the cost of capital and the value of long term cash flows declines.
Therefore, if long term bonds have truly changed their trend, then the value of equities should decline. We have already seen some of this occur in the form of multiple compression on the S&P 500. While earnings are growing at a record pace, the market isn’t paying very much for those earnings. According to my data, the S&P 500 is trading at 13.5x 2006 earnings, which is below the historical average of 14x.
The one positive aspect of the long term trendline break in the long bond is that it happened without much drama. That indicates to me that the long bond price is likely to trace out a trading range, rather than simply fall off a cliff. Nevertheless, the trend line break is not a positive for equity prices. Combined with the negative reading on the MACD, it makes for a rough road for long term investors.
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Econ major, actually. Revolving creidt is like a creidt card debt. All banks in a country have creidt cards with all other banks (except they normally don’t charge each other an arm and a leg that’s reserved for the customers ), and the shortest short term interest rate possible is the interest rate on banks’ creidt cards with other banks.Measuring banking profit is a bit convoluted banking panics happen because it gets too convoluted for the banks themselves.