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US equities face a dangerous autumn!

The s&p 500 index rose from 667 in March 2009 to 2169 as I write as a tsunami of easy money from the Bernanke Fed lifted America from its post Lehman economic recession and global banks from the precipice of a systemic meltdown. US equities became the global "safe haven" trade as market angst rose about Chinese growth, Europe's undercapitalized banking system, Brexit and the failure of Abenomics in Japan. The bull market in the US can no longer remain immune from the macro big chill. Why?
One, Valuation is a lousy timing indicator but the S&P 500 index now trades at 17.8 times forward earnings, a two point rerating since February lows. In august 2011, the broad index traded at 11 times forward earnings. An expensive market is a risky market. Get real. Get out.
Two, with the Volatility Index (VIX) at 12, I believe the pendulum of greed and fear is tilted towards greed, not fear. Positioning is far too complacent, particularly in Nasdaq which has risen 20 per cent since February 2016. For me to commit new money, the VIX should rise to at least 18.
Three, sales growth in corporate America is at a three year low due to higher US dollar and rising wages take their toll on operating margins. Bad news for bulls.
Four, asset prices correlate with bank credit growth on Wall Street as closely as in the UAE. So I watch the Federal Reserve's senior loan officer survey as closely as the NRI Big Hammour Skip Town index. There is no doubt that banks are tightening loan underwriting spreads or raising risk premia for lower rated corporates. This is particularly true for construction and land development loans. With the high yield default rate set to rise to 5.6 per cent next year, credit makes equities even riskier to me.
Five, the US markets have priced in a Clinton win in the Presidential elections. Fine but a Clinton win could also mean a rise in protectionist rhetoric, regulation zealotry and more tensions with Russia. The markets have also priced in "lower for longer" Fed policy on US rates that may not materialise. When future shocks assail Wall Street, bad things happen to the S&P 500 index. I remember September 2008 all too well and the index has fallen 70 per cent of the time every September in the past six decades. This bull market is hyper interest rates sensitive, due to zero rates and epic leverage. As Cicero warned his Roman compatriots two millennia ago, not to know history is to forever remain a child - as well as become the victim of a margin call if the S&P 500 plunges 150 points this autumn. My successive recommendations in this column to buy Indian bank shares and rupee government bonds (G-Secs) was hugely profitable in 2016, the year both India's Prime Minister and RBI Governor are form Gujarat (Gujjunomics. LOL?). However, my favourite ICICI Bank is only 25 per cent above its Union Budget lows while Yes Bank has risen a spectacular 86 per cent this year. ICICI is fully priced at Rs24. This was not surprising given its stellar loan growth, problem loan and EPS growth metrics could well boost India's fifth largest private bank to Rs1,500. Yes Bank was the trade of a lifetime when it fell to only Rs45 in 2008.
HDFC Bank is not expensive even though it trades at 20 times earnings because it is India's best run, most consistently profitable bank with the potential to deliver 20 per cent EPS growth next year. I would stay away from Axis Bank due to its exposure to troubled steel borrowers in its iffy margins and rise in operating costs. Kotak has been Indian banking Cinderella in 2016 which is not surprising given its nosebleed valuations.
While there is no sovereign credit downgrade risk for India, Urjit Patel faces a six per cent inflation rate and a banking system with $100 billion in stressed loans. So my big picture insight is to take profits on Indian banks on September 4, 2016, Dr Rajan's last day at work at the RBI. The most successful monetarist in the history of Indian central banking made bank shares and a G-Sec debt a winner. Urjit Patel cannot lower rates given inflation risks but could well succumb to political pressure from New Delhi. If that happens, the rupee, G-Sec and bank shares will all go ballistic.