The inverted U.S. bonds' long-term and short-term interest rates have triggered concerns about an economic recession, and U.S. stocks plummeted again. The Dow Jones Industrial Average fell 800 points, the Nasdaq fell 3.02%, and the S&P 500 fell 2.93%.

It is better to go long for US bonds and gold than short US stocks.

US bonds long and short interest rates are inverted , triggering concerns about economic recession, and US stocks plummeted again. The Dow Jones Industrial Average fell 800 points, the Nasdaq fell 3.02%, and the S&P 500 index fell 2.93%.

Just a while ago, under the Fed's dovish remarks, the S&P 500 hit a new high in mid-July. It broke through 2925 points in October last year and once stood above the 3000 point mark. Now, how far can the US stock market go in the past ten years?

1. Is the US stock market fallen sharply again? Is it an adjustment or a reversal?

Looking back at history, The monetary policy and economic fundamentals of the United States are the most important factors affecting stock prices.

The US stock market has made two major adjustments in the fourth quarter of 2018 and the second quarter of 2019 respectively.

The biggest adjustment in the fourth quarter of last year was due to the tough hawkish attitude of the Federal Reserve, which continued to raise interest rates and boosted US dollar financing costs, tightened liquidity, and inverted long-term and short-term interest rates; and the market pessimism caused by the financial reports of giants such as Apple , which were not as expected. It closed at a temporary low of 2351 before Christmas, down about 20% from its October high.

Then, with Powell's words, "there is still a long way" from the neutral interest rate in early October to the neutral interest rate range at the end of November, the overall monetary policy tone of the Federal Reserve has changed from an eagle to a dove. The US stock market seems to have returned to the slow bull state of the previous decade, and once again slapped the short singer in the face.

Although it fluctuated again in May 2019 due to the progress of trade frictions, the pullback rate did not exceed 7%.

first throws the conclusion. Lao Jin believes that compared with the current countries and regions, the fundamentals of the US economy are still relatively strong, and the Fed still has a lot of room for maneuver. As long as the Fed properly manages expectations, does not make mistakes, and uses the weapons in its hands, the US stock market still has strong support. The US stock market is likely to not experience an extreme collapse or a bear market for the time being. There is certain support for the adjustment. It is better to go long for US bonds than to short US stocks.

At this stage, the market sees that the probability of the United States cutting interest rates again in September exceeds the historical threshold of 85%. With the subjective initiative of macroeconomic policies, the market expects gold and US bonds to be the most suitable assets to hold at present.

2. Two rounds of sharp drops in US stocks in 2000

Let’s look at the background of the two rounds of sharp drops in US stocks in the past 20 years:

The first round of sharp drops in 2000

0 The 1990s were the decade when the US computer and the Internet were rapidly developing and the rapid popularization of civil use. The Clinton administration raised the information technology industry to the national strategic level. At the same time, the related stocks grew wildly and produced a large number of bubbles.

In order to curb inflationary pressure and capital market bubble, the Federal Reserve began to enter the process of interest rate hikes since the third quarter of 1996. The inflation rate dropped from 3.4% in 1996 to 1.4% in 1998. However, the crazy stock market did not stop. Nasdaq Index only began to show fatigue after the fifth rate hike.

By the beginning of 2000, more and more Kewang stocks were unable to fulfill their profit commitments, and related fixed asset investment and R&D investment began to decline. The Nasdaq Index began to collapse after hitting a high of 5132 on March 10, 2000. By October 9, 2002, it hit a bottom of 1114 points, with a cumulative decline of 78.3%.

(Picture source: WIND CITIC Securities)

The second round of sharp drop:

The cause of the 2008 crisis was the real estate market that the Bush administration has been promoting and developing since 2003. While the real estate market is booming, in addition to giving birth to a real estate bubble, the prosperity of the derivatives market has laid hidden dangers for the subprime mortgage crisis. With the support of the government, many middle- and low-income residents purchase houses through subprime mortgage loans. As house prices have been rising, there is no risk of default for subordinated debts.

However, in mid-2004, the US loose monetary policy changed with the upward trend of the macro economy and began a cycle of interest rate hikes. The federal funds rate increased from 1.00% in 2003 to 5.25% at the end of Q2 2006, and the mortgage interest rate also rose.

The rise in loan interest rates has increased the pressure on low-income residents to repay loans.Subsequently, housing prices fell, subprime mortgage supply cuts, and finally the crisis spread to financial institutions, causing the financial industry to fall by 82.8% and the real estate industry to fall by 75.0%.

3. Is the logic of rising since 2009 still there?

One important logic for this round of US stock market rise lies in the leverage of government departments and corporate departments, and the repurchase of enterprises for years. Quantitative easing for decades has reduced corporate financing costs, pushed up leverage, and promoted the prosperity of the stock market.

Subsequently, Trump took office, adopting active fiscal policies, tax cuts stimulate personal consumption and corporate investment, and at the same time developing infrastructure plans to drive the economy, further extends the rise cycle of US stocks . While the economy, employment and consumption data are strong, the government deficits rise and inflation rises, which also opens up the Federal Reserve's interest rate hike cycle.

Of course, US stocks are not "fake bull market" driven by policies only. The gradual increase in profits of index components is another logic that drives the bull market.

First of all, the "constituent stocks" have undergone certain changes. Since the end of 2008, the weight of information technology ( Apple , Google, Facebook ) and optional consumption (Amazon, Netflix , Alibaba) has increased significantly, and the industry's market value share has increased from 14.3% and 7.8% to 22.4% and 13.9% respectively.

Secondly, the profits of US stocks have also steadily increased, with the overall net profit of US stocks growing at a rate of 9.6%. The growth rate of net profit in the discretionary consumer and information technology industry is as high as 17.2% and 11.6%, far higher than the 9.6% of all U.S. stocks.

Bull market is of course inseparable from Davis' double click of profit and valuation. The price-to-earnings ratio of the information technology industry has expanded from 11.3 times at the end of 2008 to 23.9 times at the current rate, an increase of 111%, ranking first in all industries. The valuation of optional consumption also expanded from 9.6 times to 16.9 times during the same period. It further pushed up the bull market in the US stock market.

4. Next risk analysis of US stocks

Due to limited profit growth, high valuation, differentiated company's willingness to repurchase and trade frictions, it is difficult for US stocks to experience a significant upward trend at the index level. Let’s take a look at why the upward space is limited in the United States’ ten-year bull market.

firstly has earnings growth, while Wall Street analysts have lowered their expectations for the growth rate of US stocks. In the first quarter of this year, the profits of S&P 500 components decreased by 0.5% year-on-year, the first negative growth since the second quarter of 2016. Analysts' expectations for the S&P 500 were cut by about 6.5%. This is the biggest cut since the second quarter of 2016, higher than the historical average of 2-3%. By industry, the profit growth of the information technology industry, which accounts for the largest proportion of the US stock market, has deteriorated significantly.

followed by valuation. 's current P/E ratio TTM of S&P 500 is 21.17. Although it is still a certain distance from the valuation at the top of the previous two Great Depressions, it is already higher than the average of 15, 10 and 5 years.

Other levels, CITIC Securities found that The rise in US stocks is closely related to the repurchase of listed companies . Once the repurchase behavior decreases, the support for US stock prices at high levels will weaken. The

SPX500 buy-back index (SPX500 buy-backindex) counts the performance of the 100 stocks with the highest repurchase ratio among the S&P 500 components. It is found that since 2009, after the financial crisis, the correlation between the SPX500 repurchase index and the SPX500 itself is as high as 0.99, which is significantly higher than the 0.52 from the beginning of 2000 to the end of 2008.

According to statistics from JPMorgan Chase , the repurchase amount of US stocks in 2018 was about US$800 billion, breaking the historical record. Although the number of repurchases declined in 2019, it is still strong.

Interestingly, the repurchase scale of Berkshire , which is managed by Buffett , this quarter, was lower than the $1.7 billion in the first three months of this year. That figure is also lower than the $1.5 billion expected by Barclays Plc analysts.

Although repurchase is strongly related to stock prices, we still need to look at this data dialectically. Some voices believe that the company's large amount of cash is used for repurchase rather than for investment and research and development of its main business, and some voices believe that the company's large amount of repurchase of its own company's stock is a manifestation of confidence in the company's stock price.

So, in short term, US stock adjustment has support below. As long as the Federal Reserve does not make mistakes, there will be no collapse or a big bear market. It is not recommended to vigorously short US stocks.

Adjustment later the Fed's attitude changes (monetary policy tightening), which may also be due to major events that affect economic fundamentals in the United States (with friction escalation, consumption and employment, etc., which are not as expected). By then, the Fed will have enough means of circling, and the global equity assets of the US stock market will still be popular.

cost-effectiveness, what should I buy at this stage? 's answer is gold and US debt.

The probability of the United States cutting interest rates again in September exceeded the historical threshold of 85%. From the perspective of macro policies and market expectations, gold and bonds are the most suitable assets to hold in this time window.

Gold investment can review our previous article "Gold Medium- and Long-term Allocation Opportunities" , while US bonds continue to be bullish as yields decline.

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