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The Signs Of Market Tops

The Signs Of Market Tops

Variant Perception, a US based research firm has published a thematic report on “understanding market tops” which we found interesting.

In their report they attempt to outline “how to recognise market tops as and when they occur” with their overall conclusion being that; “Today the market shows many of the elements that are present during market tops.”

The report goes into some detail on identifying the right signs to use and why, but can be more-broadly divided into the following categories: corporate, valuation, economic, market and sentiment which are then analysed separately. These categories are listed below and for the full report, a link can be found at the bottom of this blog for you to download.

From the report;


Every market top is different, but they all have many elements in common. In 2007 banks and homebuilders had experienced a bubble. In 2000 internet stocks and large caps had experienced a bubble. In 1989 leveraged loans and LBOs had boomed and turned down. All of these were very different from each other, yet they shared similar characteristics.

Economic – Near market tops the economy is doing well but leading indicators are turning down. It is shocking for the average investor to realize that market tops don’t happen with bad economic data. They happen when employment is good and GDP growth is high. The downturn begins when the economy goes from being good to being not so good. Fortunately, leading economic indicators turn down before employment deteriorates and industrial production sags. This is why leading economic indicators are so important.

Corporate – CEOs are poor capital allocators when they use corporate cash and are a contrarian timing indicator. A CEO should issue company shares when they are overvalued and buy them back when they are undervalued. Likewise, a CEO should buy competitors when they are cheap and avoid overbidding when prices are too high. Unfortunately, most share buybacks and most mergers and acquisitions happen at high prices near market tops, and companies divest units and issue shares near market bottoms.

Insiders are much better at providing insight. CEOs are happy to squander shareholder money, but when it comes to their own cash, they are accurate market timers. When it comes to it, insiders are smart when it comes to their own money. IPOs surge near market tops as insiders sell out. Also, near market bottoms insiders buy their own stocks.

Sentiment – Sentiment is extreme near market tops and is generally useful as a contrary indicator. Near market tops, the bears have given up fighting the trend. Professional value-investors are discredited, and retail investors chase rapidly rising momentum stocks. Near market bottoms, it is impossible to find people who are bullish. The lesson is that investors should be greedy when others are fearful and fearful when others are greedy. This is easier said than done.

Valuation – Market prices reflect overreactions between euphoria and panic. Near market tops this means credit spreads are tight, low quality borrowers have access to capital, volatility is low, valuations are high and fad stocks do well. However, under the surface, problems emerge. Credit spreads start rising, volatility starts rising, and more and more stocks start making new lows. Markets are generally efficient, but they are not always efficient. This means that markets tend to under-price risk when investors are consumed by greed and they price in too much risk during panics.

The full report is an interesting read and can be accessed by filling out the form on this page. The report will subsequently be emailed to you. Whilst the analysis in this report largely lends itself to US markets, we are sure you will get some value out of it.

Russell Muldoon is the Portfolio Manager of The Montgomery [Private] Fund. To invest with Montgomery, find out more.

This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.


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  1. Thanks for the great article Russell. Another common condition at market tops is excessive debt and I was interested to read a Doug Short article that NYSE Margin Debt is now at an inflation adjusted record high. It’s quite scary to think that this obviously puts it above dot.com and GFC levels and when you add your recent research about the median S&P 500 stock being the most expensive it’s ever been… I don’t know what to think really, why aren’t more people talking about numbers like this? It seems mad to me so soon after two recent crashes.

    I know forecasting is a mugs game but surely the upside everyone is seeing from this point is largely illusory. It could be a mad scramble to the doors when interest rates rise.

  2. What’s your view on the efficacy of using the total market cap to total GDP value ratio as a leading indicator?

  3. shawn-tarafder

    Hi Guys,
    Very informative,.
    How many of these are currently present in AU, in your opinion?

  4. Duncan Lenton

    Is Resmed’s report really that bad??

    I’m guessing, from the lack of posts on Resmed over the last few months, that the Montgomery fund has been selling into the bull market on Resmed.

    I still see that the stock could go down further especially as the USA has dumped the stock to. Personally I don’t think the figures were that bad. Currency was a factor and new products can take a wee bit to gain traction. Big deal?!!

    The only thing i didn’t like was the reducing of product pricing. Was this because it’s old stock they wanted to remove, or was it due to competition?

    Cheers for now


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