“Americans seem to be falling in love with stocks again.” -Front page of Saturday’s New York Times (HT, @Ritholtz)
“The bears are gone, extinct, vanished. Among the ones remaining, many are people whom even I would consider to be either permabears or nut-cases. And yet, the historical evidence for major defensiveness has rarely been stronger.” -John Hussman
“Prominent bears, Alan Abelson and Nouriel Roubini, have thrown in the towel and are no longer bearish. They are not the only ones as it is difficult to find any prominent bears these days. $55 billion flowed into equity mutual funds and ETFs in January, the most since February 2000. John Paulson, David Tepper and Ray Dalio have all come out bullishly recently. There is a very positive mood towards stocks from pundits, the general public and professionals.” -Capital Observer
Signs of bullishness are popping up more frequently by the minute, it seems. I grow increasingly cautious. I wonder, however, how many bears must capitulate to form a major top? It’s like the college grads screwing in a lightbulb question – clearly facetious but points out something serious. Sometimes lightbulbs can be damn tricky, especially those new energy saving ones that look like they’re from the Space Shuttle or something. And stock market tops can be far trickier.
Clearly, the bears are flustered by this surge in stocks over the past couple of months. And clearly individual investors are becoming more comfortable buying stocks. That equity mutual fund number quoted above really blows my hair back. The most inflows since the top of the internet bubble. That’s a milestone worth noting. Still, individual investors are nowhere near as bullish today as they were back then but I don’t know if we’ll ever see that kind of euphoria again in our lifetimes. So it’s all relative and very difficult to judge.
Truth be told, I’m more worried about individual investors in the fixed income markets. High-yield bonds (also known as, “junk”) look to me to be ripe for a very painful reversal. Considering these ETFs yield 6% and change today, they really can’t even be called “high-yield” anymore. But this is what happens when the Fed takes rates to zero and investors spend years reaching for yield without even experiencing a hiccup. They get complacent.
Not just complacent. They become fearless. Fearless of risks like recessions that precipitate defaults, inflation that pushes rates up and bond prices down or just reversion of prices to their long-term mean. This fearlessness is born out of confidence in the Fed. The Fed will keep rates low and support prices; The Fed will keep inflation subdued and support the economy.
The trouble is the Fed is neither omniscient nor omnipotent. They proved this during the financial crisis. Transcripts recently released from the Board of Governors meetings leading into the crisis show (1) that the Fed didn’t see the crisis coming and (2) once it began to present they didn’t really understand it’s cause, either. If they had they would have been able intervene earlier and do so much more surgically. So I believe investor confidence in the Fed is misplaced. “The Fed Put” is based more in fiction than fact.
I don’t know when exactly this will come back to bite bond investors. Hell, it might not happen for years. If Richard Koo is right and our “balance sheet recession” is only getting started we will get to see what a real bond bubble looks like. Investor confidence in the Fed is the wild card. Should investors find any reason to question the power of the Fed Put at any point in the future then we could see a 1987-style crash in the bond market. Ultimately, it’s fascinating to watch from the sidelines.
Chart of the Day
The chart below plots the yield of the 10-year Treasury Note. It hit 2% today for the first time in nearly a year (still 20% below Apple’s dividend yield, believe it or not). And it looks to me like it may have formed a significant bottom. It has now broken the descending wedge, tested the break and started a pattern of higher highs and higher lows.
See all of my annotated charts at StockCharts.com
Hit the Links
- The Fed Is More Out of It Than You Thought It Was (Bloomberg)
- The perfect storm is heading toward the debt market (Quartz)
- Does this mark the top for bond prices? (Calculated Risk)
- Keep it simple, avoid the major pitfalls of investing (Washington Post)
- Money Management: Why “Market Wizards” Claim It’s the Secret Sauce (StockCharts)
- Uh-Oh: NYT’s Front Page Cover Indicator (Ritholtz)
- John Hussman Sees “Capitulation Everywhere” (Hussman)
- Many prominent bears are throwing in the towel (Capital Observer)
- Here’s What Google Does When the Government Wants Your Emails (Mashable)
- Ashton Kutcher Was Hospitalized After Following Steve Jobs’ Extreme Fruitarian Diet (BusinessInsider)