It is said that markets climb a wall of worry. The U.S. China trade war and the brief inversion of the U.S. Treasury yield curve this year actually provided the impetus to push the S&P 500 (NYSEARCA:SPY) to a record high on Monday.
Supposedly, “everyone” was worried about trade and a slowing U.S. economy. The ambient narrative from most pundits has been for “caution”.
The American Association of Individual Investors survey said that bullish optimism was recently lower than the low reading in December 2018. And this despite equity indexes being no more than 5% from record highs at any time since July.
We looked at another popular investor sentiment survey, the CNN Fear & Greed Index.
Today, the CNN Fear & Greed Index is at “moderate greed”, and one month ago, the index was at a neutral reading. Yes, a neutral reading in September with the S&P 500 only about 40 points below its record high.
Our WMA Market Sentiment Indicator, which is based on various market indicators, did not show the degree of pessimism stated in investor questionnaire surveys. The components of the WMA Market Sentiment Indicator can be seen here. The indicator showed deep pessimism, and rightly so, last December. However, since last year, the indicator has only left the “optimism” mode for two weeks!
Here are our two cents on what is happening with investor skepticism over equities. Apparently, what investors are reporting in sentiment surveys is not matching their actions. Relatively, few investors (at least among institutional investors) are lightening up on equities even if the narrative is for “caution”. This explains why the WMA Sentiment Indicator has essentially remained optimistic this year while the various investor surveys are suggesting very low bullish sentiment.
Perhaps investors are not acting on their concerns over trade and global economic slowing because they know that when the U.S. equity indexes dip, investors who do lightening up on equities need to be hyper-reactive in buying the dip, lest they get caught buying back in at higher prices. And the reason for the “buy-the-dip whatever the reason” mentality is again due to central banks.
Only on one occasion, since 2011, did the S&P 500 come close to a cyclical bear market (-20% from highs). And this one occasion was in Q4 of 2018, due exclusively to the fact that the Federal Reserve messed up in their “management” of the S&P 500. Fed Chair Powell did not fully understand the Fed’s new, unofficial objective to support equity prices. With equities already correcting from October highs, Powell did not provide the immediate verbal support in November or December (in addition to going one rate hike too far).
Bottom line: there are plenty of reasons to be cautious on equities. Trade is not one of the reasons. A man-made problem will find a man-made solution. The end of the economic expansion is a legitimate reason to be cautious. Unless central bankers, after over 300 years of central banking, have just discovered the panacea for recessions, we will see an economic contraction again. The current reality, however, is that Wall Street banks want risk asset prices to keep rising (it’s good for business, and like everyone, Wall Street folks only care about the short term). More important, policy makers need equity prices to stay aloft. Central bankers have built a house of cards out of the Financial Crisis. When the house of cards crumbles, central bankers will have nowhere to hide.