Five years ago today the stock market, reeling from the financial crisis, hit bottom. The Dow (^DJI) closed at just under 6,500 and the S&P 500 (^GSPC) ended at 676.5. Since March 9, 2009, the Dow and the S&P 500 have more than doubled but how much longer can this rally last?
No one knows the answer, of course, but there are reasons to be cautious. Here are five of them:
1. Tenure: The average bull market lasts about 4.5 years. Only three of the 11 previous bull markets (excluding this one), celebrated a sixth birthday.
2. Valuation: Profit growth is slowing and revenue growth is sluggish, but the price-to-earnings-ratio for the S&P 500 is still strong--about 16 times earnings for the past 12 months. That's near the peak reached in October 2007, just before stocks began their decline during the financial crisis.
3. Margin debt: It's been rising since June and reached a record $488 billion in January. Investors are borrowing to invest, which is a euphoric sign, says Phil Pearlman, interactive editor at Yahoo Finance. And too much euphoria in the stock market is considered a sign of vulnerability. But Pearlman notes that a major reason for rising margin debt is that the cheap cost of borrowing due to extremely low interest rates.
4. The Fed: the U.S. central bank is reducing its purchases of mortgage debt and long-term Treasuries, which have kept long-term rates low and helped fuel the stock market rally. Many strategists say Fed policy is THE key factor for the stock market rally so less Fed asset purchases means less support for the rally.
5. Biotech weakening. Pearlman says biotech stocks have been a leader in the bull market but have been selling off lately. Over the past two weeks the Nasdaq Biotech index (IBB) has fallen 2.3% while the Nasdaq has gained 1.6% and the S&P 500 and Dow are both up about 2%.
Biotechs have been lagging big-cap growth stocks like Google (GOOG), Facebook (FB), Priceline (PCLN) and Netflix (NFLX), which have also outperformed in the current rally, says Pearlman. "Keep an eye on biotechs and large-cap growth stocks," he warns. "When they [both] start to roll over that would be a second signal that momentum is waning."
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