It’s scary that the stock market is higher now than it was at the start of the year, even though trends are getting worse.
Take business gains. Standard & Poor’s says that the S&P 500’s (SPX) stated earnings per share for the year would be $250.66 at the start of January. This was what most people on Wall Street thought. After only five months, the average estimate has dropped almost four percent, to $241.33, and even this lower estimate comes with even more doubt than usual.
Since the S&P 500 is a little higher now than it was on January 1, this drop in value makes the stock market even more overvalued than it was before.
It would make more sense for the value to go up if the economy was less unclear now than it was at the start of the year. Because of this, there is a strong negative link between anxiety and stock prices. But there is a lot more economic uncertainty now than there was in January. The above chart shows the U.S. Economic Policy Uncertainty (EPU) measure over the last five years.
In fact, the EPU recently hit almost record highs. The last time it was this high was when the economy was shutting down at the start of the COVID-19 pandemic in early 2020. The following graph shows that economic uncertainty and the stock market are related in a way that is opposite to each other. This is important at the 95% confidence level that statisticians use to decide if a pattern is real. Since everything else stayed the same, we thought that the big rise in the EPU so far this year would lead to a drop in the S&P 500.
Even if interest rates had gone down, it would still make sense for the stock market to go up because when rates go down, the present value of companies’ future earnings goes up. But rates haven’t gone down since the start of the year. The yield on a 10-year Treasury note is about the same as it was at the start of the year. The yield on a 30-year Treasury note.
The picture that forms is of a stock market that depends more and more on investors’ decisions to bet on stocks no matter what the facts are. This kind of market is unstable because investors’ moods change all the time.
