Mom, Pop and the Stock Market

In a very minor way, the S&P500 retreated last week on extremely light volume. The index fell only 0.9% and the lack of volume means that the selling had very little conviction behind it. Sure the VIX (or volatility) index jumped a bit, but since it ended the week at around 12, it was still hovering near decade lows. By no means did any real fear enter the US stock markets.

Technically, the extreme overbought condition of the S&P, on both the daily and weekly resolutions, has not been resolved by the minor dip in the price last week. Far from it—the index is still stretched to nosebleed levels. At the same time, the trend is still fully upward sloping. This means that making major directional (non-hedging) bets on a decline in the stock market would be dangerous to do. Until the index falls below the 200 day moving average (and stays below this moving average) and until the 200 day moving average turns down and becomes clearly downward sloping, then the bull market rally cannot be declared over.

Meanwhile, in terms of US economic news, the small business optimism index fell when it was expected to rise. Wholesales trade also fell more than expected. On the other hand, initial jobless claims were slightly better than expected, and the same happened with job openings. It was a light week for economic reporting; next week will bring a slew of new numbers.

While there have been many historically tested signs that the US equity markets are overvalued or overbought (for example, margin debt used to buy stocks through borrowing has already exceeded the peaks reached in 2007), one sign had not materialized until now.

What is this sign of a market top?

Retail, or mom and pop, investors piling into stocks while—at the same time—professional, institutional, investors rush for the exits.

For most of the first few years of the bull market rally (after the 2009 peak), retail investors did the opposite—they pulled money out of the stock market and plowed it into bonds. mostly corporate bonds and some government bonds. Institutional investors, on the other hand, were net buyers of stocks during that entire time.

Until now.

This year, for the first time since before the prior peak was reached in late 2007, retail, or mom and pop, investors are piling into stocks like crazy. Here’s how Bloomberg described this development:

“Individual investors are plowing money back into the U.S. stock market just as professional strategists say gains for this year are over. About $100 billion has been added to equity mutual funds and exchange-traded funds in the past year, 10 times more than the previous 12 months…”

But so what? What does this mean?  Here’s Bloomberg again:

“While the strategists have a mixed record of being right, history shows the bull market has already lasted longer than average and individuals tend to pile in at the end of the rally.

Professional investors, such as Nick Skiming of Ashburton Ltd., say that individuals investors are attracted to stocks after seeing others getting rich from a big rally, a time when equities are usually overpriced. The bursting of the technology bubble in March 2000 was marked by mutual funds absorbing a record $102 billion in the first quarter.”

Oops. Not a good sign. It makes sense and historical evidence proves that this signal works.

Does this mean that the rally is about to end? Nope. But one should add to the ever growing list of warning signs that the US equity market is overdue…..extremely overdue…..for a notable correction.

When mom and pop jump in with both feet, it’s time to get worried.

 

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