Ominous Signals Point to Further Trouble for US Stocks

US stocks are facing significant headwinds as ominous market signals suggest further declines. A steep selloff has already erased over $4 trillion in value, wiping out all gains since President Donald Trump's election. Technical indicators, investor unease, and economic uncertainties are contributing to a cautious outlook for the market.

Key Market Indicators Flash Warning Signs

• The S&P 500 recently closed below its 200-day moving average, a critical long-term trendline, for the first time since late 2023. Historical data indicates that such a breach often leads to weaker returns over the subsequent year.
• A key measure of market internals, the percentage of S&P 500 constituents above their 200-day levels, has dropped to 47%. Historically, when this figure falls below 48%, the S&P 500 has seen an average decline of 7.3% over the next year.
• The yield spread between junk-rated corporate bonds and U.S. Treasuries has widened to 316 basis points, the largest spread since September. This widening spread suggests growing concerns among investors about the health of the riskier corporate sector and a potential growth slowdown.
• Equity volatility futures contracts expiring this month are trading at a premium to those expiring further out, a state known as "backwardation." This signals heightened investor concern about immediate market volatility.

Economic Uncertainty Fuels Investor Anxiety

Uncertainty surrounding economic growth, exacerbated by President Trump's tariff policies, is a major factor contributing to market jitters. A recent Reuters poll revealed that 95% of economists in Canada, the U.S., and Mexico believe the risk of a recession has increased due to tariff implementation. Conflicting statements from President Trump regarding a potential recession have further added to the confusion.

Valuations Remain Elevated

Despite the recent market slide, the S&P 500 was trading at 20.5 times earnings estimates for the next year, significantly higher than its long-term average price-to-earnings ratio of 15.8. This elevated valuation, coupled with increased volatility, is prompting some investors to reduce their equity exposure.

"Buying the Dip" Strategy Under Scrutiny

While "buying the dip" has historically been a profitable strategy, especially over the past 15 years, the current market environment presents new challenges. Some strategists suggest that the market could enter a period where sharp rallies are sold off, as investors rotate out of equities into bonds or international markets. However, some analysts believe that concerns about a severe economic growth scare are overblown and see the current pullback as a potential buying opportunity, particularly in mid-cap stocks.

Sources

• Ominous market signals show more trouble could await US stocks, Reuters.