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Potential drawdown

The chart below is a scary one. It presents in red the deepest loss (drawdown) for the S&P500 in a 3 year period subsequent to a bull market. The blue line calculates the amount of potential losses that would be necessary to reach a valuation in the index where potential nominal returns are 10% or the equity risk premium is above 2% over Treasuries. Why those numbers? Because in the past those have been the levels at which the market is considered cheap and the the turnaround begun. The scary part is the current gap between the current drawdown (red area) and the blue line (max expected drawdown). Notice how those gaps have closed in the past. The important metric to follow is corporate earnings, since we already had multiple compression.

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