Investors who aren't long the S&P 500 today say they can't possibly buy the market now, stocks are way too expensive. Sure, the U.S. stock market's valuation is expensive but does that matter?
Not necessarily.
First of all, we're not denying stocks are expensive. At 24.7 times trailing twelve month earnings, the S&P 500 valuation is clearly rich. But expensive can get a whole lot more expensive if the prevailing macro conditions improve. On that score, the U.S. economy is growing and stock market volatility continues to fall, a bullish signal for still tentative investors.
Stock market Volatility is Falling
#Stocks #Volatility
As you can see in the Chart of the Day, the realized volatility of the S&P 500 continues to fall from a high of almost 30% in the summer of 2015 to today's 6.6%. Realized volatility is a measure of the historical volatility of an asset and, as you can see, this measure is testing cycle lows once again.
Meanwhile, fearful investors expect future stock volatility. Implied volatility on the S&P 500 is 8.7%. This is essentially what options market investors are pricing in as expectations for future market gyrations.
The takeaway? Since the implied or future volatility, of 8.7%, is above realized or historical volatility, of 6.6%, investors clearly expect the already "expensive" S&P 500 to sell off sometime in the near future.
What does this mean for investors? Buy Stocks...
SPY $VIX
We think investors sitting on the sidelines and arguing about the S&P 500's lofty valuation don't yet appreciate that the U.S. economy is accelerating. On Friday, we expect critical updates on fourth quarter GDP and durable goods orders to continue to improve. That would obviously send seemingly "irrationally expensive" stock markets higher and further smash volatility expectations.
In short, the debate on cheap versus expensive doesn't really matter all that much. It's all about whether the U.S. economy will continue to accelerate? Here's Hedgeye CEO Keith McCullough's thinking in this morning's Early Look:
"I think it’s because consensus continues to position for a correction that would be deemed “rational”, as opposed to buying all dips in an irrationally profitable position that’s been complimented by prevailing growth and inflation conditions."
We're sticking with our bullish call on stocks.
