Thursday, February 14, 2013

Exuberance in Junk The Past 3 Times Was Bad for $SPX

Further to our junk bond exuberance post on February 6, we wonder: what happened to $SPX the last three times junk bond prices traded at these levels (in 2004, 2005 and 2011)? The answer is: all three times, the advance in equities stalled and declined, the most dramatic being early 2011. Charts below the break.

From David Schawel, price is above par plus half its coupon. Note prior peaks (2004, 2005 and 2011):

And here is how $SPX performed after each of those peaks (in yellow). At best, an 8% decline, at worst a 20% decline. Certainly, no large advance in the following months.