Tracking The Bear
I mentioned this concept in our recent Investment Forecast in the context of looking for signs of a market top, or more specifically, a rising risk structure inherent to owning stocks. Just like a hunter, we’re seeing more signs, more tracks as we get closer to the den.
Market Tops Are Very Deceptive
Before we get into the new evidence, I do want to say one thing that must govern any discussion of hunting for a market top. Markets can and will go much higher and for much longer than normal logic, prudence or your patience can typically tolerate. If you happen to have missed this entire bull market like so many have (a true statement), prices will rise until YOU finally capitulate and push in all of your chips. Then it will punish you for your lack of discipline. It is the nature of human risk aversion both in avoiding pain but also the pain of being left behind. Even when valuations are notably high as they are today, markets can and will again move even higher as multiples expand. Valuations today are the same as they were in 1996 and the same talk existed then as it does now. They said the markets cannot move higher considering valuations were so high. Well the S&P 500 went on to generate another 142% over the course of the next four years before we saw the final top in March of 2000. I started in this business in July of 1994 and I thought I was a genius ignoring the fundamental camp as valuations pushed higher into never (ever) land. I just didn’t know enough to do much more than read a chart pattern at that time and it worked out well. Dumb luck literally. So the message to retain is that calling a top is a sensational matter and great if you need someone to pay attention to you, but not really a high probability endeavor. I don’t need any attention. Our effort here is to point to the signs, the tracks and the evidence of investor excess as they develop. These are the hallmarks of the end of every bull market but the exact timing is always tough.
Additional New Tracks
In early February, we talked about cutting some exposure from our equity models as several of our markers had been hit in terms of extremes. Most notably the VIX hit a low of 10 and that fact has a long history of preceding a period of higher future volatility. Now understand again, that volatility comes in many forms including upside and downside volatility. So far, we have seen some upside volatility and that’s always the easy fun kind. Soon, we’ll see some downside volatility and that’s the nasty kind. Either way, when the probability of future volatility hits a high point as it did on January 29th, the smart thing to do is to slightly reduce exposure and/or consider inherent volatility in your security selection. This is all that we have done in recent weeks but remain largely invested in all strategies, respecting the bull.
Today, I read a great post from Jared Dillon of the 10th Man “When it’s time to leave the party”. It was very funny and a bit scary at the same time. Most of it surrounds the celebrity crowd like Jay-Z, Pitbull and yes the cheesiest of the financial televangelists, Tony Robbins getting in on the action. The last time I heard advice from celebrities, they were demanding to be paid in Euros! (oops).
Even CNBC did a little capitulating with this headline:
I’m still waiting for the big one, the mother of all signs of excess.
The cover of Kiplinger’s magazine asking – “Are You Rich Yet?”
When bullishness finally blows out as it has since last summer, we also tend to see money flow into the market, in mass. Did it happen? Did we find this track? You betcha.
2016 was actually the first year we saw net inflows into equities since the beginning of this bull market way back in 2009. Shocking. The number was huge as nearly one-half of $1Trillion of new money went into the stock market in 2016, much of it in the last couple months of the year. That’s great so far but it’s also more evidence that holdout investors are in fact capitulating and finally investing again.
Jason Goepfert of Sentiment Trader also posted another “track” today in his research surrounding a most notable event in the Dow. Nine consecutive closes at all time new highs is not something that happens all that often. Statistically, it’s happened six times since 1900. I know you want to know what has happened in the past after such events, so here they are as an average for the Dow Jones Industrials.
After 1 month +2.6%
After 2 months* +5.8%
After 3 months +4.0%
After 6 months +3.4%
After 12 months +0.90%
The sharp analyst would identify the end of the second month (April this year) as the month to cut and run which jives nicely with our stance that we should continue to see bullish strength and momentum through April.
Jason also made sure to mention that inside these average results following the event, we had not one but two market crashes, one very serious bear market called the Great Depression and one very long choppy period of no gains. All in, maybe not a great time to be plunking down a lot of cash in Jay-Z’s new Venture Capital fund (Just saying). In Jason’s words, “once it stopped, it stopped hard!”
Finally, those who watched our Investment Forecast for 2017, know that we set some boundaries on a reasonable expectation for upside market appreciation in the S&P 500 using an educated guess and some notable help from smart research shops.
Our upside target for the S&P 500 is 2430 (+9%) by year-end, but not necessarily the high of the year. Today the S&P 500 is trading at 2366 or about 3% shy of the target. So again, we could see prices rise beyond the target through April but we’ve already pulled forward a lot of 2017’s total year return in barely the first 60 days. The current annualized rate of the return for the S&P 500 based on the first 60 days of the year is…. 47%. Hmmmmm.
I’ll leave it right there.
Heed the tracks as we make our way up the hill to the den.
Have a great week
Sam Jones
