Rare Diagnosis: Only 4 Times In 40 Years

In this piece, we look at a market pattern that has occurred only four times in the last 40-years and which has preceded stock market rallies every time.

Our preferred method of measuring stock market valuation is the net-yield of the SPX (SPX dividend yield minus the 6-month Treasury yield); the higher the net yield, the less expensive stocks are relative to risk-free Treasuries.

Normally, when the 6-month Treasury yield increasesthe stock market as measured by the SPX also increaseswhile the SPX dividend yield decreases (blue-arrows on the chart below). (Note: the net-yield always decreases, making stocks look more expensive relative to risk-free T-securities).

In the last 40-years, we have found only four instances — 1984, 1987, 1994, 2022 — when the opposite happened; the 6-month yield increased, but the SPX dividend yield increased, while the SPX decreased (black-arrows on the chart below).

The following charts take a closer look at each of these periods, starting with the current situation:

Notice that the three previous patterns — 1994, 1987, and 1984 — all lasted less than one year, and that the SPX rallied after the pattern ended. The current version of this pattern is approximately six-months old and is likely to last several more months before the 6-month Treasury yield stabilizes and the SPX rallies. Investors are advised to have cash available when the SPX rally reignites (likely in Q4).

We think that the beaten-down technology sector will experience the strongest rebound rally. Some ETFs to consider buying as we progress to the end of the pattern over the next 2-3 months are: ARKK, AIQ, and QCLN.

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