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Stock markets – keep an eye on confidence measures

Posted By Prieur du Plessis On March 26, 2009 @ 8:15 am In BP Cafe,Markets,Psychology | Comments Disabled

Stock markets – keep an eye on confidence measures [1]

It is important that confidence be restored for the recent stock market gains to be more enduring. A few comments regarding this issue are highlighted in this post.

As shown in Sunday’s “Words from the Wise [2]” review, there is a strong historical relationship between the US Consumer Confidence Index and the 12-month change in the S&P 500 Index. One needs to take a view on the direction of consumer confidence, but should it for argument’s sake pick up from 30 to 40 by the end of June, the relationship indicates a S&P 500 decline of 30-35% in year-ago terms. Using end-of-quarter prices, this means an Index at between 832 and 896 by mid-year.

26-mrt-1.jpg

Source: Plexus Asset Management (based on data from I-Net Bridge)

Interestingly, a report [3] from Franklin Templeton Investments has just arrived, also showing that when confidence was low in the past, it had been time to buy. For example, on average, stocks returned 12.5% a year following consumer confidence of 66 or lower. The consumer confidence reading at the end of February was 25.

tabel-2.jpg

Another confidence indicator worth monitoring, is the Barron’s Confidence Index. This Index is calculated by dividing the average yield on high-grade bonds by the average yield on intermediate-grade bonds. The discrepancy between the yields is indicative of investor confidence. There has been an improvement in the ratio since its all-time low in December, showing that bond investors are growing somewhat more confident and have started opting for more speculative bonds over high-grade bonds.

25-mrt-2.jpg

Source: I-Net Bridge

Not surprisingly, a strong historical relationship also exists between the Barron’s Confidence Index and the S&P 500′s 12-month rate of change. But unlike consumer confidence that has not yet bottomed, the Barron’s indicator has already been working its way higher over the three months.

barrons.jpg

Source: Plexus Asset Management (based on data from I-Net Bridge)

As mentioned before, taking one step at a time, the next hurdle is the release of potentially ugly earnings and guidance announcements in April. By then a clearer picture should also start emerging on the results of the Fed’s medicine and whether credit markets are thawing and confidence is beginning to improve.

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URL to article: http://www.ritholtz.com/blog/2009/03/stock-markets-%e2%80%93-keep-an-eye-on-confidence-measures/

URLs in this post:

[1] Stock markets – keep an eye on confidence measures: http://www.investmentpostcards.com/2009/03/26/stock-markets-%E2%80%93-keep-an-eye-on-confidence-measures/

[2] Words from the Wise: http://www.investmentpostcards.com/2009/03/22/words-from-the-investment-wise-for-the-week-that-was-march-16-%E2%80%93-22-2009/

[3] report: http://www.franklintempleton.co.za/pdf/newsletter/20090325/emotional_challenge_of_staying_invested_0902.pdf

[4] Did you enjoy this post? If so, click here to subscribe to updates to Investment Postcards from Cape Town by e-mail.: http://www.feedburner.com/fb/a/emailverifySubmit?feedId=921608&loc=en_US

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