The yield curve has steepened, where short rates have remained more or less constant and long rates have risen slightly. A steep yield curve generally coincides with a strengthening economy. When the economy reaches a top and interest rates begin to drop at the long end, the yield curve will become flat and imply an increased risk of falling asset values. We don’t seem to be near that point.
Stocks have lost some momentum, although they still have far more momentum than bonds, which have lost ground over the last 2.5 months and are only slightly ahead of their value 10 months ago. There is a market effect called the January Effect which holds that as go the first five days of January, so goes the month of January and so goes the year (for stock performance). Is this a reliable effect, or is it a superstition? I believe that evidence shows this effect being reliable slightly more than 50% of the time. Optimistically, I only believe in it when it portends good performance. This year, the first five days in the market have been disappointing, whereas I expect relatively strong returns in the stock market this year.
With a P/E of 19.46, the stock market does not appear particularly cheap. This level implies a real forward return of 5.14%. This is far better than long government bonds, currently yielding 3.6%, which should provide a real return of 1.60%. There is no change in the apparent value of stocks, still appearing near the upper end of fair value range. The market will still require improved earnings to be supportive of rising prices. Seeing that we await fourth quarter reports from the majority of companies, there may be some delay since many companies take longer when reporting fourth quarter earnings, depending on the work of their auditors. We may not get a good sense for the economic performance of companies until March. In the meantime, investors are making deposits to RRSPs and TFSAs, which increases the demand for investments. I will watch with interest to see whether funds are flowing into fixed income, balanced funds or equity funds.