Wednesday, October 1, 2014

Can the public be apathetic AND be all-in on stocks?

I recently highlighted some figures indicating that the US public was at or near a crowded long in equities (see 3 reasons to get more cautious on stocks). Here is the chart from Lance Roberts showing AAII equity allocations at levels roughly equal the pre-2008 top and cash levels at low extremes roughly equal to the pre-Lehman Crisis lows.

As well, there was the chart from Dana Lyons indicating a similar crowded long reading in US equities:

An apathetic public?
By contrast, Russ Koesterich of The BlackRock Blog told a story of Americans who are afraid of the stock market (via Business Insider):
During the bull market of the last five years, U.S. stocks, as measured by the SP 500, have generated total returns of 233%. So, you would think most investors would be embracing equities.

But while stocks represent a larger share of household financial assets than they did five years ago, the share of U.S. adults who own stocks remains stuck at multi-year lows.

Share of US households holding stocks

As well, Josh Brown recently wrote a post entitled How can you have euphoria when nobody gives a sh*t? Unlike the Tech Bubble of the late 1990`s when everyone was partying like Qualcom would go up 1000% a year, Brown cited a Gallup poll indicating that only 7% of Americans knew that the stock market was up 30% last year:
This week we learned that only 7% – SEVEN PERCENT – of Americans are aware that the US stock market went up by 30% last year.

This is quite a mania – a mania of apathy.
Subsequent to that post, Brown tweeted the following contradictory message:

An apparent contradiction
How can both sets of analysis be true? Can individual investors BOTH be in a crowded long AND be afraid and apathetic about the stock market?

The superficial explanation is that while individual investors are long equities, they remain jittery and are quick to bail whenever risk aversion rises. That`s why we have seen frequent short but shallow pullbacks marked by spikes in fear.

I came up with a better explanation once I started to dive into the data. In effect, both assertions are true. The average American remains apathetic and unaware of the bull market while fully invested. That`s because surveys like Gallup are equal weighted, that is to say they survey all Americans, while surveys like the AAII Asset Allocation Survey is more tilted towards a population who matter - those with money.

The Federal Reserve Survey of Consumer Finances is very revealing in that respect. Koesterich pointed out that US household holdings of equities have hardly budged since the Great Financial Crisis, I will use the period from 2007 to the present as my framework for analysis.

The chart below expands on the chart shown by Koesterich above by breaking down the Percent of families with stock holdings by income groupings. For the period from 2007 to 2013, only the top 10% of households saw holdings rise, while all other groups saw their holdings fall. Since outfits like AAII measure overall equity allocations and it's the 10% that have most of the stock holdings, it is no surprise that we see weighted equity holdings rise.

The above chart shows the percentage of households with stock holdings. The chart below shows the median value of stock holdings for households that reported non-zero holdings by income group. First of all, note the disparity in the magnitude of holdings. The value of the holdings of the top 10% group dwarves all other groups, including the next 10% by income.

Since the vertical scale of the above table is a little hard to read as you go down the income group, here is the same data in table form. From 2007 to 2013, only the top decile and the second quartile of households that reported stock holdings saw their median portfolio value increase. Given the pattern shown by the other charts and tables, the gain by the second quartile is likely a statistical anomaly.

  • The top 10% have most of the money;
  • Surveys like the AAII Asset Allocation Survey focuses on the people with the money; and
  • The bottom 90% appeared to have lost ground in their equity portfolio holdings since 2007
To summarize, this chart from the Fed, which is weighted by dollar invested and not equal weighted by population, tells the story:

My conclusion is the people who matter, i.e. those with the money, are fully invested in equities. By contrast, those who don't have any money are either apathetic or possibly afraid of stocks. There may be further room for more increased public participation by other 90% as the economic recovery strengthens, but that would be a long-shot scenario.

Could public participation widen?
Consider the long-term trend in income gains. Neil Irwin, writing in the New York Times, pointed out that the trend has been that income gains have accrued more and more to the top 10%:

In fact, most of the income gains have gone to the top 1%:

This post is not intended to be a discussion about inequality or fairness of how the pie is sliced up. However, given the trends in the post-war era, and the fact that the richest segment of America are already fully invested in equities, do you really want to bet on widening public participation as incremental demand to drive equity prices higher from here?


Unknown said...

Hello Cam, interested in your thoughts if you have any, on whether debt will continue to fuel the rally through relative prices. For example consider the modified Fed model E/P = R(1-T). This could be at the firm or household level. This may happen as I expect to see a further decline in the 10 year. The alternative bullish scenario to consider is foreign households go all in on US equities. Recent movements in the dollar would support such a hypothesis.

WimpyInvestor said...

I know demographic trends move very slowly, but I've been monitoring wealth transfer from Boomers (assume top 10%) to Millenial kids (assume bottom 90%). Wealth Management firms are targeting these "money in motion," some quite worried since the way their clients conduct business will change a lot (e.g., fully digital engagement by the Millenials vs. person-to-person contact).

Assume Boomers are mostly in fixed income type instruments (or at most 20% equities), and once the money gets to the Millenials, it becomes 60/40 (or maybe even 80% equities) ... multiply that by the US$ Trillions that will be transferred in the next 10-20 years, and the bull market could go on very long.

Here in Silicon Valley there are lots of self-made wealth (from bottom 90% to top 10% or top 1%) in short 5-10 years. Just look at the asset gathering chart from Wealthfront and you can get a sense that there is fast social mobility happening here.

Of course, the rest of California or US is not like Silicon Valley ...

Anonymous said...

Hi Cam, I must confess that Andrew has a point. I have been thinking along those lines for the past few months.

The US has it's problems, however, it's still the best looking house in an ugly neighborhood. I can easily foresee why folks from other places may want to invest in the US (or simply escape from where they are).

(1) Europe is in death/deflationary spiral and EU is quickly moving towards confiscating wealth through taxation.

(2) Japan's debt and inflation are rising fast and 10 Yr JGB's yielding a mere 0.5%.

(3) BRICs and Emerging mkt currencies are tumbling and growth slowing.

I think the US$, US equities and US bonds can attract a lot of capital from all over the world.

Cam Hui, CFA said...

You guys are all trying to change the subject. The post was about whether the US individual investor is fully invested.

There is and can be no doubt other sources of demand for US equities - institutions, hedged funds, foreign demand and from demographic change. How much of that is going to matter in the next 6-12 months?

Institutions - maybe, but with the rally in the last few years, a lot of defined benefit plans are either fully funded or getting nearly fully funded. They more likely to sell equities and buy bonds in order to fix their funding costs.

HFs - who knows

Foreign individuals - It`s unlikely that the demand is going to be all that large at the margin. Imagine that an American believed that the UK market (a relatively familiar market) is a screaming buy, what do you have to do to set up a brokerage account in a different currency, in order to transact in GBP. How well do you know the names in the UK market? Take a typical UK company like Smith & Nephew, how many Americans even know what it does, never mind the company and its prospects? All good questions.

Bottom line: Don't count on additional demand from US households for equities in the immediate future. Other sources of demand require greater analysis.