Stop the presses! Something very unusual happened last week. The S&P500 did not rise, for the first time in many many weeks. But not to worry…..the stock market didn’t fall much either. It only slipped a teeny 0.04%. But tiny as it was, this drop made news. Volume rose, which means that whenever stocks don’t go up, sellers seem to pile in. This simply alerts astute investors that the recent rally is not built on strong conviction, but rather, it’s built on a foundation of buyers who may even understand they’re late to the party but join in anyway. Volatility rose a bit, which is another sign that buyers a somewhat concerned.
The technicals continue to paint a picture of an extremely over-bought market. Prices just keep on hugging upper bounds of a numerous bunch of indicators. That this is happening on daily, weekly and even monthly charts is an indication of how badly over-bought the equity markets are today.
Macro results in the US are mixed, as is typical lately. US GDP appeared to jump, but on closer inspection, most of the good news came from massive inventory builds, not organic jumps in consumption. So these inventory builds, if not matched by consumption rises soon, will likely lead to reversals in the near future. But for now, the markets loved the news. At the same time, construction spending, international trade, new home sales, ISM services, and personal income reports all disappointed. But ISM manufacturing, initial jobless claims, consumer sentiment and payrolls all beat expectations.
The critical question is what will all the economic reports do to the Fed’s unlimited QE program? And to the extent that the economic reports continue to project a mixed message, equity market participants continue to believe that the Fed will not taper. And if the Fed will not taper anytime soon, then it’s “all aboard” the US stock market express. Buy more; don’t sell. You can’t lose!
How badly are markets becoming distorted today? While we’ve already touched on valuations, technical signals and the lack of bearishness, John Hussman—in his latest letter to investors—make some interesting observations about today’s stock markets:
Among the litany of other classic features of a speculative bull market peak, margin debt on the NYSE has surged to the highest level in history, and at nearly 2.5% of GDP, exceeds all but two months in 2000 and 2007. The amount being borrowed to buy stocks on margin is now 26% the size of all commercial and industrial loans in the entire U.S. banking sector. As low-quality, high-risk borrowers rush to take advantage of the present speculative appetite, issuance of leveraged loans (particularly the junkier “covenant-lite” forms) has now hit a record high, already eclipsing the previous record in 2007 at the height of pre-crisis yield-seeking. New equity issuance is also running at the fastest pace since any point except the 2000 bubble peak. At the same time, Bloomberg reports that investors are plowing more into stock mutual funds than at any point since the 2000 bubble peak. Keep in mind how this works – every buyer is matched with a seller in equilibrium, so the same amount of stock is being sold by institutions and other non-retail investors. One doesn’t need to think long to answer who is likely to be the “smart money” in this trade, as the history of surges in retail participation provides a rather firm answer to that question.
So there you have it. The bubble signs just keep on piling up. So does this mean that we’re surely close to a major correction? Absolutely not. The distortions can keep on growing and the bubble can keep on getting bigger. History consistently teaches us this lesson. It’s almost impossible to call the ‘correction’ ahead of time.
But history also teaches us that a reversal is virtually inevitable. And that the smartest investor is the most patient investor. And he will be rewarded in the end.