Valuation analysis for SPDR S&P 500 ETF Trust (NYSEARCA:SPY)

February 02, 2015, 14:26 pm ET, BY Thomas H. Kee Jr- Editor, Stock Traders Daily| Editor: Thomas H. Kee Jr. (Follow on LinkedIn)

What is the fair value of the S&P 500 and SPY?  A good way of determining this is to look at the difference between the demand for assets like stocks and real estate with Stimulus and what the demand would be without it.

The stock market appears risky, the SPDR S&P 500 ETF Trust (NYSEARCA:SPY) is down 3% YTD, while the ProShares Ultra S&P500 (ETF) (NYSEARCA:SSO), we can all see that, but some people really don't see the forest despite the trees.  What I'm trying to say is that some people are not actually recognizing the long-term risks in the market, but they are only expecting volatility because oil has wreaked havoc on S&P earnings (SPY), consumer spending is not what they had hoped, and many are just prepared for weakness early in the year, similar to what we witnessed last year.

But the casual approach to this early year weakness is risky because the weakness we are witness to today has characteristics that are materially different than the weakness that we have seen at any point over the past few years, including last year.  The material difference is that the safety net is no longer there.  The FOMC stimulus policy served to support the market and all other asset classes every time there was a concern, and every time there was a minor setback more money was there because it was being infused into the system by the FOMC so investors felt very comfortable picking up the pieces.

I am not talking about individual investors of course, but institutional investors were very sure of themselves when they knew that the FOMC would infuse another $85B every month, so institutional investors were very willing to buy the market when the market looked ugly in the past.  Now, those days are over, the safety net is no longer there, so the question on everyone's mind is what the demand side of the equation will look like without FOMC stimulus.

The chart below is a proprietary observation that compares the natural demand cycles that my macroeconomic work, The Investment Rate, suggests to the demand that has existed as a result of the FOMC stimulus policy.  This is a very important chart, so look at it closely.

So you understand what you're looking at, the investment rate measures natural demand for investments using a demographic study dating back to 1900 which incorporates societal norms and our lifetimes spending and investment patterns and extrapolates that data to define the rate of change in the amount of new money available to be invested into the stock market, real estate, and other asset classes on an annualized basis, dating back to 1900, and extending through to 2040.  The data suggests that we're currently in the third major down period in US history, and the other two were the great depression and stagflation, but this one has been masked by FOMC stimulus and the weakness that exists is not immediately evident right now.

The added risks that I have been suggesting are based on the real possibility that without continued stimulus the demand side of the equation for all asset classes, especially those that have been supported by the FOMC stimulus program, will revert back to their natural state.  That spells trouble for anyone who is not seeing the forest despite the trees.

Disclaimer: Stock Traders Daily provides trading strategies, which by definition incorporate risk controls, and it has only engaged in buy and hold strategies twice since the turn of the century. The first was in October of 2002, and those buy and hold strategies lasted until 2006, and the second was in February of 2009, and those buy and hold strategies lasted until the end of 2010. Every point in between Stock Traders Daily has been providing risk controlled strategies, market based strategies, and strategies for approximately 3000 individual stocks, which are unbiased and which incorporate the notion that short term gains lead to long term success. There is a time and a place for buy and hold strategies and this is neither the time nor the place for that approach in our opinion. Risk controls are essential.

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