And speaking of rates, another indicator
to check periodically is the yield curve (the
di;erence between short- and long-term
bond-yield rates). A flattening yield curve
(short-term rates rise and long-term rates
fall) can be a sign of growing headwinds in
bond markets. The yield curve was flattening into the end of October 2018.
THE THIRD SUSPECT;STOCK VALUATIONS
In March 2000 the Shiller cyclically ad-
justed price-earnings (CAPE) ratio showed
that stock values
(Figure 3). Unlike
ings measures that
use a 12-month
looks back 10 years.
would take another
39 months for that
concern to be fully
realized, there had
been a number of
other warning signs,
including the Asian
financial crisis in
1997 and the collapse in the Russian
ruble in 1998.
As Figure 3 shows, CAPE values as of Q3
2018 at 30.57 are still shy of the 44.2 high in
Q4 1999. However, it’s interesting to note
that CAPE peaked at a relatively benign
25.96 in Q4 2007, compared to 2000.
Keep an eye on intermarket forces. Both
the Asian and Russian crises can trace their
roots to high debt levels. When these cracks
began to appear, they impacted markets at
home and around the world.
You may have heard of intermarket
analysis, which studies the interplay be-
tween stock, bond, commodity, and cur-
rency markets. The 1997 and 1998 crises
are another example of how collapses in
one market and region can a;ect the global
economy. These events eventually impacted
U. S. stock markets.
That situation can draw parallels with
the present. By the end of October 2018,
emerging markets were trending down,
relative to the S&P 500 Index. Escalating
trade tari;s and rising geopolitical risks
haven’t helped ease tensions.
Another concern is that according to the
Philadelphia Housing Sector Index (HGX),
new housing and housing-finance stocks
dropped more than 30% between January
and the end of October 2018.
By no means are we here to predict what the
markets will do next. But when economic
expansions run long in the tooth, as well as
bull runs in stock markets, it’s worth keeping an eye out for warning signs that might
fall under the radar for most investors.
So, if you suspect a correction is in the
o;ng, depending on where market volatility is at any given time, there are a lot of
things you can do to prepare. Long puts,
collars, and covered calls, to name a few,
are discussed in greater detail on page 18 of
SUFFICE IT TO SAY, EVERY MAJOR BEAR
market, and subsequent recession, has a
supporting cast of usual suspects. Although
similarities exist, each was triggered uniquely by a major catalyst that was di;erent from
the prior meltdown. There is often no single
warning sign that another meltdown is on
the way, or what will cause it.
Matt Blackman is not a representative of
TD Ameritrade, Inc. The material, views, and
opinions expressed in this article are solely those
of the author and may not be reflective of those
held by TD Ameritrade, Inc. For more on the risks
of trading and trading options, see page 37, #1– 2.
*Source for Figure 3: Spreadsheet available for
download at http://www.econ.yale.edu/~shiller/
FIGURE 2: All sectors; debt securities and loans; liability, level. Relative to GDP, total debt hit a modest peak
of 2. 13 times GDP in Q1 2000 before taking a one-quarter break to resume its upward march. The next peak
of 3.61 came in Q1 and Q2 2009, before relative debt levels dropped for the next five quarters. Then the ratio
turned up again. Source: thinkorswim® from TD Ameritrade. For illustrative purposes only.
Jan 1992 Jul 1994 Jan 1997 Jul 1999 Jan 2002 Jul 2004 Jan 2007 Jul 2009 Jan 2012 Jul 2014 Jan 2017
FIGURE 3: Price-earnings ratio versus interest rates. 1929 and 2000 saw
price-earnings ratios peak, but interest rates were relatively low. Data source: Robert
Shiller.* For illustrative purposes only.