It is not difficult to make the argument the US stock market should be lower. From a longer term perspective corporate profits have peaked, interest rates are already extremely low and P/E’s are far from cheap. It is tough to come up with a solid argument why US stocks are about to embark on a bull run. On a shorter time frame, the bull argument is even more difficult. American stocks are stretched and running into some serious resistance. In the meantime, most other world stock markets are sinking, and all the coincident risk on indicators are diverging to the downside.
In all my years watching the markets, I cannot recall a period where so many market participants were leaning short and yet the market just kept going higher. Even regular bull market cheerleaders are urging caution. Precious few investors are fully invested. Most are severely underweight, waiting to catch the “inevitable” decline. Sentiment is so lopsided to the short side simply suggesting stocks might tread water puts you in the raving bullish camp.
ZeroHedge wrote a piece last night that sums up the situation perfectly:
Does Not Compute: The Market Is The “Most Overbought Since 2009” Yet “Most Short Since 2008”
From the ZH article:
Furthermore, as we have been reporting for the past 2 months, the “smart money” clients of BofA have been consistently selling this rally, and as of this last week, have sold shares for 10 consecutive weeks,with the selling actually accelerating, and in the last week, during which the S&P 500 was up 1.8%, BofA clients sold a total of $4 billion, the largest since September, and the fifth-largest in BofA history.
Most traders are looking at the recent US stock market resiliency and concluding it is only a matter of time until it rolls over. And I have to admit that I have been taking stabs at the short side of the US stock market.
But if the violent unwind of the JPY carry trade and the tanking of the inversion mergers wasn’t enough to derail this rally, then I am increasingly at a loss to explain why the US stock market is headed lower. I hate myself for this, but I am giving up trying to fight this rally. I won’t be joining the bull side by any means, but the short side is way too crowded with top tickers.
For those bears looking for signs of capitulation, then my throwing in the towel on the short side might be welcome news. And if I am wrong, I will be meekly reshorting it lower in the coming weeks. At that point you can call me a mope, after all I am not afraid of looking like an idiot - I have my suit to protect me.
One indicator that is not diverging
Lately I have been highlighting all the indicators not confirming the recent US stock market rally. It seemed like American stocks were driving higher all on their own. But I was recently reminded of one of my main themes that happens to also be explaining the US stock market strength.
I am a huge bull on inflation linked bonds. I am especially constructive on break even levels (the implied forward inflation rate).
The US stock market is tracking the 30 year break even level almost tick for tick:
I am still bullish on breakevens, and believe that eventually TIPs will outperform all risk assets. It is the next great bull market.
Thanks for reading,