The Market Gods are by no means benevolent deities. In fact, they are just the opposite. They border on cruel – taking pleasure in making as many traders look as foolish as possible as often as they can. And the more confident the market call, the more certain that the Gods are going to remind you of their wicked power.
Therefore I winced when the UBS Strategist Richards proclaimed on National TV that he was “so bullish it hurts.” I might not know much, but I do know that showing this sort of confidence is only going to anger the Market Gods.
All kidding aside, although I have chosen this UBS strategist as the poster boy for the recent rally, he is by no means alone. The bullish sentiment is completely off the charts. The September swoon has been completely forgotten. Every dip is bought with reckless abandon. Lately I have been watching the ISEE Option Sentiment Indicator which measures the number of opening transactions of calls versus puts for regular equities. Usually on downdrafts retail investors rush to hedge their long positions. But not lately. Recently the down days have been met with an absolute staggering amount of call buying. That’s right! Into any sort of dip, the public is loading up the boat on calls.
The other day we had 4 times as many opening transactions in calls as opposed to puts. But the interesting aspect of that day was that the market was actually in the midst of selling off. The buy the dip mentality has firmly gripped Wall Street.
Most analysis now consists of taking the recent rally and simply extrapolating it into the future.
But what I find most amazing is that market participants still refuse to ask themselves what has changed since the September sell off has been stopped in its tracks. Most strategists will trot out all of this analysis of why the market should be rising, but none of that explains the ferocity of the recent rally. Almost all of the so called bullish evidence was just as valid in September as it is today. Yet everyone seems to have quietly erased the early Fall from their minds. At the time, the market was in free fall. It was the mirror opposite of today. There seemed to be no end in sight to the selling.
But then it reversed, and now there seems to be no end in sight to the buying. Instead of questioning the reason for the reversal, market participants are clinging to the same bullish reasons they were citing in the midst of the free fall, consoling themselves that the market has finally woken up to their great arguments.
I am more interested in understanding why we reversed. And although it is staring everyone in their face, no one seems to be willing to admit it.
This entire rally has been driven by the recent Japanese policy to increase their Quantitative Easing program combined with the GPIF’s dramatic asset shift into equities.
Nothing else explains the dramatic change from September to October. Market participants can kid themselves that we are embarking on a wondrous secular bullish journey, but they are ignoring the evidence that this rally is not being driven by fundamentals, but instead by the biggest QE program the world has ever seen. Between the Bank of Japan’s buying, the GPIF’s asset shift and then all the hedge funds who are engaging in the Yen carry trade, the torrent of liquidity that has been thrown at the US stock market has been absolutely massive.
If you want to believe that is going up because of fundamentals, then go ahead. But I refuse to believe this is anything more than one of the biggest buy orders the world has ever seen. And like all buy orders, it will eventually come to an end. When it does, I suspect that September’s trend will resume.
Even though the stock market action is bullish, the underlying fundamentals continue to deteriorate. Have a look at my version of Yardeni’s “Fundamental Indicator”:
The indicator has recently rolled over and is not confirming the recent rise.
The corporate bond spread to equity relationship is also diverging.
Even initial jobless claims, which has been trending only lower, have recently upticked.
I just don’t see any improving fundamentals to explain the sudden rise. I am running out time this morning, but the technical picture is just as lousy. The recent rise is happening on less and less breadth, with more and more technical divergences.
So although everyone is coming up with all these reasons to be bullish, I contend that the most obvious explanation is most likely the correct one.
The world is getting duped into thinking that the stock market is going up because of fundamentals. It is not. It is going up on speculation caused by the greatest carry trade of all time.
One of these days the Yen’s downtick will not result in a corresponding rise in the stock market. At that point, you need short stocks with both fists. Although I am currently short equities, I am waiting for that signal to really lean against it. Until then, I will just wait, content to watch the Market Gods inflict their wrath on those foolish enough to be “so bullish it hurts.”