Investors should exercise extreme caution regarding US stocks, as an increasing number of "bear market warning signs" indicate that a potential market peak is approaching, according to Bank of America Securities. "There are too many red flags," analysts led by Savita Subramanian stated in a June 5th note. "It is better to lock in profits," they advise.
70% of bear market signals have already been triggered
According to the strategic analysts, approximately 70% of the relevant bear market indicators have already been triggered, a percentage that aligns with levels typically observed at market tops. The benchmark S&P 500 Index is considered "statistically expensive" in 17 out of 20 valuation metrics, while it is trading at higher levels even compared to valuations from the tech bubble era in eight of them, according to Savita Subramanian.
Economic and credit stress indicators point to a slowdown
The data being examined includes consumer confidence, growth expectations, merger and acquisition ratings, as well as credit stress and liquidity condition indicators. Among these is the Federal Reserve's survey, known as the Senior Loan Officer Opinion Survey (SLOOS), which shows that consumer demand continues to weaken. At the same time, stocks with high price-to-earnings (P/E) ratios are outperforming cheaper stocks by a wide margin, something that analysts characterize as a "sign of excessive speculation."
Technology: historically large return discrepancies
In the technology sector, the gap between the best and worst performing companies is the largest since February 2000, according to Savita Subramanian. She noted that the strong overall image of the S&P 500 Index "hides internal turmoil," as the return gap between the top and bottom 10% of the index's stocks reached a post-Covid high within the last three months, based on data from 1986 through May.
Technology fundamentals and indicator deterioration
Certain fundamentals in the technology sector remain healthy, such as leverage, valuations, and capital intensity. However, most indicators have deteriorated since Bank of America's last analysis in November. Specifically, according to Savita Subramanian: cash flow conversion has "stabilized without improvement"; the supply of investment-grade bonds and stocks has increased; stock buybacks as a percentage of market capitalization have slowed down; and capital expenditures as a percentage of operating cash flows for major tech conglomerates are expected to reach nearly 100% by the end of the year, up from 40% in 2023. Warning of increased volatility in the markets, Savita Subramanian cautioned: "Extreme price movements may signal growing volatility."
Despite warnings, there are still opportunities
Despite the cautious stance, Bank of America does not rule out positive returns on individual stocks. "We see opportunities in S&P 500 stocks, but not in the overall capitalization-weighted index," stated Savita Subramanian. Her year-end target for the S&P 500 Index is 7,100 points, while the index closed on Monday with a rise of about 0.3% at 7,406 points.
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