Stock-Markets
Best Financial Markets Analysis ArticleMerrill Lynch Asia (Bank of America) strategists Sadiq Currimbhoy, Arik Reiss, and Jacky Tang suggest that the S&P 500 could soar another 40% by December 2010 before it collapses completely based on a unique comparison with the Nikkei 225. (Before you reject this possibility out of hand please read the entire article.)Were the S&P 500 to indeed rise by 40% then, by extension, precious metals stocks (as represented by the HUI and GDM indices) and their associated warrants (as represented by our proprietary PreciousMetalsWarrants Index) would top out at record highs as would gold and silver.
Uncanny Relationship Exists (with a Twist) between the Nikkei and the S&P 500
The strategists have identified a pattern that supports the likelihood of major additional gains in the US stock market even without a strong economic recovery which suggests that the rally should continue until the end of the year. Below is an edited version of what the Merrill Lynch strategists had to say:
Some investors like to compare the US to Japan. From a market perspective, plotting the Nikkei and the S&P 500 shows no similarity. However, a peculiar variation shows an uncanny relationship.The chart below shows the Nikkei in U.S. dollars compared to the S&P 500. The S&P 500 in DXY terms has been rebased to the same peak as in Japan, except 117 months (9.75 years) later. If this pattern repeats, there is potential for 40% upside over the next 3-4 months.
Assuming a relationship similar to what Japan went through, the S&P 500 in DXY terms could well rise another 40% pretty much from now until mid-December 2010. Importantly, this is in DXY terms, so if the U.S. dollar were to rally 20% and the S&P 500 17% (as it's multiplied), that would do it. If the market were to only rally to the lower trend line in the... chart, then the total upside would be 33%, split between the U.S. dollar and the equity market.
The Merrill strategists went further, constructing an equally-weighted index of all markets that have crashed more than 45% since 1970 plus the U.S. stock market crash in 1930 and then averaged the recoveries from these crashes (referred to as 'Historical Peak-Trough Index'). They found that strong "relief rallies" are common and that, should this pattern hold for the S&P 500, then it should experience a further 40% appreciation by the end of 2010.Specifically, they looked at all the markets since 1970 that had had crashes of more than 45% in the previous 12 months in U.S. dollar terms (or 50% in local currency terms) and added in the U.S. stock market crash of 1930 to create their equally-weighted index. This is shown in the chart below with 25% and 75% bands.
Relationship Suggests S&P 500 Will Rise to 1400-1500 before Falling Back to 400
When they the Historical Peak-Trough Index was compared to markets that have recently experienced similar deterioration (referred to as 'Current Peak-Trough Index') they concluded that the current S&P 500 index looks like it's following a similar pattern and is set to peak in 3-4 months some 40% higher than the current level. That would have the S&P 500 topping out at somewhere around 1400-1500 (i.e. 5-10% less than the S&P 500's record high of 1565 in October 2007) before crashing back to it's 1994 low of 400 (when the stock market bubble first began) by the end of 2013 or early 2014.
Peculiar Variation Confirms Projections of Dent, Napier and Others
It is interesting to note that Merrill Lynch's projections, based on this approach, mirror those of Russell Napier and Harry S. Dent Jr. whom I highlighted in a March, 2009 article entitled "Dent, Prechter and Others Warn that the Worst is yet to Come (Engulf Us)." Both men, independent of each other and based on their own unique approaches to market research, maintained a year ago that the S&P 500 would rally dramatically in 2009 to mid 2010. (Dent saying the Dow would go to a high of 13,200 which, incidentally, would represent a 38% increase from last Friday's close of 9544) only to slowly decline to a bottom of 400 or so by either 2012 (Dent) or 2014 (Napier).
Napier, who wrote "Anatomy of the Bear" and teaches at Edinburgh Business School in addition to being a strategist with CLSA Ltd., based his projections on Tobin's "q" ratio which compares the market value of companies to their constituent parts. His projected low of 400 was conditional on deflation setting in, which has, because "with deflation the value of assets fall and the value of debt stay up crushing equities." No one was expecting deflation a year ago but we currently are in the midst of it which should cause us to reflect on the merits of Napier's assertions.
Below are the inflation (deflation) rates year-to-date compliments of inflationdata.com:
2009 0.03% 0.24% -0.38% -0.74% -1.28% -1.43% -2.10% NA NA NA NA NA NA
Relationship Suggests Gold Could go to $1175 and Silver to $27.67
Were we to apply the same approach to the analysis of the short-term price for gold and silver a record price would result for gold and a dramatic increase would be realized in the price of silver. Gold has gone up only 8% YTD vis-à-vis the S&P 500's 13.9% or 57.5% as much. Therefore, should the S&P 500 go up 40% one could expect, under this scenario, that gold would go up a further 23% (57.5% of 40%) which would put gold well above that 'precious barrier' of $1000 to a record $1175 by end of 2010. Again, the results of the comparative analysis seem achievable.
Silver is up 30.3% YTD or 2.2 times that of the S&P 500. That would translate into an 87% price increase in the current price of silver from $14.72 as of last Friday to $27.50 by the end of 2010. The resulting number seems a bit far-fetched but that is what the analysis reveals for what it is worth.
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