Thursday, June 16, 2016

Why you need to give the bull case a chance

Maybe it's me, or my imagination? Even before the latest round of market weakness, most of the feedback and sentiment on my social media feed has tended to bear bearish. I saw a fair number of calls for SPX to eventually test its February lows at about 1820, but I haven't seen a lot of forecasts for breakouts to new highs. The recent year-end projection by respected former Value Line research director Sam Eisenstadt of 2220 only represents only modest upside from current levels, but I don't see a lot of enthusiasm for that call.

The WSJ recently call this The Most Pessimistic Bull Market in History, as investors have only embraced it in the most reluctant way:
Instead of chasing growth and profits, investors this year have bought into safety—in a big way. Only two of the 10 top-level sectors which make up the market have reached new highs this year, and they are the antithesis of exuberance: utilities and consumer staples.

This may be merely a failure of imagination. As in 2007, the bubble pushing up the market may be elsewhere. Back then, valuations weren’t outrageous, but excess in credit created unsustainable profits. This time the most obvious froth is in the government-bond markets. German 10-year bunds on Friday yielded a mere €270 a year on a €1 million investment ($1.1 million), enough to fuel your BMW 7-Series a couple of times with enough left over for a currywurst and a beer. Japan’s yields are negative for bonds maturing out to early 2031, while U.S. 10-year Treasurys on Monday closed at a new 52-week low.
Josh Brown also pointed out that stock market investors have become chicken-bulls (my term, not his), as the two most popular ETFs for equity flows have been low-volatility funds, USMV and SPLV:
The popularity of these two ETFs is perfectly emblematic of the mood these days among financial advisors and their clients. And if you know anyone in the ETF business, they’ll tell you that the principal determiners of flows are in this order: 1) recent performance 2) whether or not advisors have been sold on them and 3) recent performance. ETFs do not sell themselves and retail do-it-yourselfers are not the drivers of AUM flows – only advisors can really move the ETF needle. The iShares product probably has an edge on SPLV because it’s based on an MSCI index, which is what many advisors use as a benchmark in their performance reporting.
That's where the "chicken-bull" part comes in:
A collective financial advisor decision was made in the aftermath of August – “Okay, we’ll stay in, but we can’t take the full volatility of the stock market anymore.”

You can only imagine the calls that were coming in – “Is this it? Here we go again!”

To which the advisors’ response was something along the lines of “Don’t worry, I have an idea…” The iShares and PowerShares wholesalers did their work well.

Seeing this fund grow to $12.5 billion, having taken in a third of that in the first four months of this year, tells you everything you need to know about current sentiment. Advisors are tacitly accepting that they must be in US stocks, but because of the angst of their clients, they’re offering them exposure through a vehicle that purports to offer “minimum” volatility.
That's not the sort of investor behavior and psychology that happens at market tops. While a bull case where the SPX rises to 2400-2500 is my base case scenario, it is well within my range of possibilities. Until the investing public starts to get wildly enthusiastic about a 2400-2500 SPX target, it's hard to see how this market tops out - and I will measure the success of this post by the amount of hate mail I get.

Let me make two cases for a 2400-2500 bull market. One is fundamental, the other is technical.

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