“We continue to think that a 1Q14 correction (in the 5%-10% range) is possible given weakening EPS forward guidance trends and some softening in the Cyclical Expectations Model, not to mention euphoric sentiment levels,” say Citi’s US Equity strategists Tobias Levkovich, Lorraine Schmitt and Christina Wood in their latest “PULSE Monitor” research note.

Sentiment (S) rules overly euphoric in PULSE

1-PULSE Panic/Euphoria Model

Sentiment is the only negative amongst Citi’s PULSE group of market outlook components, as shown in the above graphic.

Euphoric reading continues to rise

We note from the chart below that the latest reading of 0.66 on Citi’s Panic/Euphoria Model is now higher than the euphoria level at pre-crisis level in 2007/08 – the previous top of the index, shown by us as the thin red horizontal line.

2-Sentiment Panic/Euphoria Model

“Euphoria readings indicate the market may retreat with an 83% historical probability of losses in the next 12 months,” says the Citi research note.

The Cyclical Expectations Model (CEM) looks toppy

Citi’s CEM model, based on factors such as the yield curve, credit spreads, retail sales, copper and oil prices and rail freight, also rose higher this week, and in Citi’s words, looks “vulnerable to a near-term reversal, which signals short-term caution for the market.”

3-CEM Panic/Euphoria Model

US equities: Price expectations for 2014 based on current P/E multiple

Currently, the S&P 500 (INDEXSP:.INX) is trading at a 16.7 multiple based on trailing four-quarter S&P 500 operating EPS as per the following info-graphic (indicated by the dart).

4-bulls-eye Panic/Euphoria Model

Historically, based on studies going back to 1940, a P/E multiple in the range of 14X to 16X for the S&P 500 (INDEXSP:.INX) has resulted in an average return of 12.6% and a median return of 15.3% over the subsequent 12 months.

Earnings revision trends

So far in January earnings revisions were up 44.8% compared to 44.4% in December and contributed primarily by the seven sectors highlighted in the table below.

5-erngs-revisions Panic/Euphoria Model

Citi’s outlook on indices for 2014-end

Citi estimate that the S&P 500 (INDEXSP:.INX) and Dow Jones Industrial Average (INDEXDJX:.DJI) will trade at 1,975 and 17,800 respectively by end-2014.