The Greed/Reality Disconnect

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This week I am focusing on financial markets as disconnects are growing. As I departed from the US this time, there was a lot of focus on the euphoria in financial markets there. A number of brokers had downgraded stocks as they thought things were overheating and were expecting rate hikes  and gridlock in Washington DC to derail the move.

The move has been relentless. I mentioned the legendary investor John Templeton around the time of the Presidential election last year. He once said, “Bull markets are born on pessimism, grow on skepticism, mature on optimism, and die on euphoria.”  The thing that this market missed last year, when the technicals were braking down, was “euphoria”. Richard Russell, with whom I had the honour of writing at Dow Theory Letters would always talk about the 3rd stage of the market.  It seems that we are well and truly in the thick of it now.

Richard Russell wrote long ago: “Every major primary bull market that I have studied or lived through ends up with a wildly speculative third phase. This is the phase where the public and the crowd rushes headlong into the market.

Here we see rising volume, the wholesale entrance of the public, accompanied by news and endless hype by the Wall Street “experts.” People who wouldn’t touch the item during the first and second phases, are now enthusiastic buyers.”

Last week I showed this chart highlighting that bullish investment amongst investment advisors was at the highest level in 30 years.

 

This chart is also quite stunning form the Wall St Journal showing how investors are returning to stocks:

“The stock-market rally presents a difficult choice for some individual investors: Miss out or risk getting in at the top.

The scars of the financial crisis have left many wary, even as the second-longest bull run in S&P 500 history has added more than $14 trillion in value to the index since it bottomed in March 2009, according to S&P Dow Jones Indices. Yet there are signs that caution is dissipating.

Investors have poured money into stocks through mutual funds and exchange-traded funds in 2017, with global equity funds posting record net inflows in the week ended March 1 based on data going back to 2000, according to fund tracker EPFR Global. Inflows continued the following week, even as the rally slowed.”

As I have mentioned for some time, stock market valuations are also very extended. If we use median valuations, we have actually set new records. On other long term indicators we are at 1929 or 2008 levels but perhaps not at 2000 peaks.  Valuations might not matter in the short term  but they do matter when the market is in a state of euphoria and technical indicators start to suggest a shift in investor risk tolerance. The recent moves in US Financial stocks suggest some volatility ahead.

Furthermore, some data is suggesting that the  US macro economic environment seems to have worsened suddenly.

 

This has certainly been captured by the latest Fed GDP Now forecast which has turned south.

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