Be prepared in advance! Bank of America Merrill Lynch Summary: Ten indicators of the end of the bull market in US stocks

Overnight, led by the star tech stocks in the US stock market, the S&P 500 index once again hit a new high. As an optimist, Goldman Sachs has once again raised its year-end target price for the S&P 500 index, with the highest target price reaching 6300 points.

Contrary to the bullish sentiment on Wall Street, Bank of America Merrill Lynch warned that the US stock market may be peaking, with 40% of its top ten peak prediction indicators flashing a "red light".

These top ten indicators cover aspects such as "optimistic sentiment", "market valuation", "macroeconomics", and "credit contraction".

"Red Light" for the S&P 500 Index Peaking Has Been Lit

On June 14th, Bank of America Merrill Lynch analysts, including Savita Subramanian, stated in a research report that the continuous breakthrough of the S&P 500 index, the ongoing decline of the volatility index (VIX), and the tightening of credit spreads are reminiscent of the calm before the storm.

In Bank of America Merrill Lynch's database, ten major indicators often appear before the peak of the US stock market. As of May 2024, when the S&P 500 index was at 5278 points, four indicators had been triggered. The progress bar for the peak signal is at 40%, and the bull market typically peaks when it reaches an average of 70%.

Specific performance of the top ten indicators:

1. Consumer Confidence Index. In the six months before the stock market peaks, the Consumer Confidence Index of The Conference Board usually reaches above 110. In January 2024, this value reached 111, triggering the indicator. The data below shows that once this index exceeds 110, the market will turn bearish.

2. Net Bullishness of the Stock Market. According to a survey by The Conference Board, a net bullishness rate above 20% typically occurs in the six months before the market peaks. Currently, 48% of consumers expect prices to rise in the next 12 months, while 25% expect prices to fall, resulting in a net bullishness rate of 23%, triggering this indicator.

3. Sell-Side Indicator. The Bank of America Merrill Lynch Sell-Side Indicator (SSI) tracks the average recommended allocation of Wall Street strategists to stocks. The bank stated that extreme bearishness on Wall Street is a bullish signal, and vice versa. In three of the past six bear markets, the Sell-Side Indicator issued a "sell" signal in the six months before the stock market peaked. Currently, the Sell-Side Indicator is in the "neutral" zone, roughly between "buy" and "sell" signals, so this indicator has not been triggered.4. Long-term growth expectations. Similar to sell-side indicators, sell-side fundamental analysts' long-term growth (LTG) expectations for S&P 500 index component stocks are often negatively correlated with subsequent returns. When expectations are high, the stock market is more likely to disappoint, and vice versa. In the previous 6 market peaks, 4 times the long-term return expectations of the S&P 500 index were more than 1 standard deviation above their 5-year average level. Over the past year, expected returns have been rising but still remain low (only 0.2 standard deviations above the 1-year average level). This indicator has not been triggered.

5. Increase in M&A activity. Before a bear market, the number of M&A transactions tends to steadily increase. In the 6 months leading up to market peaks, the number of M&A transactions (3 million) is more than 1 standard deviation above the 10-year average level. M&A activity has increased in the past 12 months but remains well below the threshold. Therefore, this indicator has not been triggered.

6. Market valuation, high P/E ratio + high CPI. Valuation and CPI are generally inversely related, with higher inflation often depressing valuations. The S&P 500 index typically peaks when the sum of the P/E ratio and CPI is at least one standard deviation above the 10-year average level. The current trailing P/E ratio is 24, CPI is 3.3% (sum = 27), which is 0.9 standard deviations above the average level, slightly below the indicator threshold.

7. Performance: Expensive stocks vs. cheap stocks. In a bull market, low P/E stocks usually outperform high P/E stocks. However, before a market peak, the opposite often occurs, with high P/E stocks rallying again. In the 7 market peaks in the past, low P/E stocks underperformed high P/E stocks by at least 2.5% in 5 instances. However, this indicator has not been triggered8. Macro Economy - Slope of the Yield Curve. An inverted yield curve (long-term interest rates lower than short-term interest rates) indicates weakening growth expectations. Before the previous 8 bear markets, the yield curve inverted in the past 6 months in 5 instances. Since July 2022, the yield curve has been consistently inverted, marking the longest duration of inversion on record. This indicator has been triggered.

9. Credit Stress Index (CSI). This index often sharply declines before the stock market peaks. In the 5 previous market transitions from bull to bear, the index dropped below 0.25 in 3 instances. Currently, the index has not been triggered and stands at 0.39.

10. Credit Contraction Indicator. Based on data from the "Senior Loan Officer Opinion Survey," banks typically start tightening loan standards before the market peaks. As of the first quarter of this year, 16% of banks have tightened credit, triggering this indicator.

Goldman Sachs Raises Year-End Target for S&P 500 Index

Compared to the caution from Bank of America Merrill Lynch, analysts at Goldman Sachs are more optimistic about the S&P 500 Index.

Last Friday (June 14th), in a report led by David Kostin, the Goldman Sachs strategy team stated that due to "below-average negative earnings revisions and higher fair value price-earnings ratios," they currently expect the S&P 500 Index to rise to 5600 points by 2024 in the base scenario, higher than the previous estimate of 5200 points, setting a new historical high. Goldman Sachs has already raised the year-end target for the S&P 500 Index in February this year and in December 2023.

Currently, Goldman Sachs' view aligns with Brian Belski from BMO Capital Markets, who raised his target for the S&P 500 Index to 5600 points in May, becoming one of the most optimistic bulls on Wall Street at that time.

However, Goldman Sachs' trading chief also pointed out that the continuous new highs in the U.S. stock market rely on technology stocks, but the market risks lie in the consumer end. Goldman Sachs stated that while the U.S. stock market has been hitting new highs, growth expectations for the U.S. economy are overly optimistic, with the most easily overlooked being the financial deterioration of middle to lower-end consumers and declining consumption. Although inflation is easing, price levels still pose challenges for consumers