The FTSE and the Dow have continued their rise since the US government extended the deadline for a spending agreement to January, but, in the short term, they are looking a bit toppy. This chart of the McClellan Oscillator suggests a peak is due shortly: recently, any value over 60 seems to indicate that the market is due a correction within the next few weeks. This would fit in with my recent predictions. There are plenty of things that could trigger a dip: the shutdown crisis is only postponed rather than solved and the FOMC still looks like it wants to end Quantitative Easing (money printing). With the us government spending $3 for every $2 it raises in taxes, there is clearly a need for significant spending cuts or tax rises, though it is unlikely that the Republicans would accept the latter. Either way, there is potential for growth to be affected and the stock market to take fright.
In the longer term, this chart of the Cyclically Adjusted Price/Earnings ratio also suggests that the US is looking expensive. Any reading over 20 is indicative that the market is high and ripe for a drop, with the current reading of 23.5 well into that category. Although the CAPE went a lot higher in 1929 and 2000 before the subsequent crashes, these instances were exceptional (with extreme mania) and most peaks occurred in the 20 to 25 range. If we look at the most recent peak (in 2008) the CAPE approached 28 and, at current earnings levels, that would put the Dow at around 18,500 (higher, if earnings continue to rise in the meantime). That would equate to the FTSE at over 8000. It is easy to see the indices reaching those levels with continued cheap money flowing into the stock market from QE and ultra-low interest rates, which make it not very worthwhile keeping money in the bank. I think that may be one of the reasons the Fed is keen to end QE; they don’t want to stoke another bubble, but they are finding it difficult to justify turning off the taps with the recovery still not that strong. I suspect this situation may continue awhile yet and another boom and bust be the result.
