Fully invested bears…a market top is (all but in)

[5 min read]

Famed Morgan Stanley strategist, Gerard Minack, cleverly expressed how tempting a long-running bull market can be (emphasis added):

‘The funny thing is there is a disconnect between what investors are saying and what they are doing.

‘No one thinks all the problems the global financial crisis revealed have been healed. But, when you have an equity rally as you’ve seen for the past four or five years, everybody has had to participate.

‘What you’ve had are fully invested bears.’

A mindset of ‘if you can’t beat ‘em, join ‘em’ has compelled bears to surrender.

The majesty and beauty of a bull market is something to truly behold.

Its power to prevail when (by all historic valuation models) it should falter, just grinds doubters one by one into submission.

And in the history of markets there’s been no more powerful narrative than this…the Fed will do anything and everything to keep asset prices elevated.

This no ‘wink, wink, nudge, nudge’ side deal from the Fed is blatant, deliberate, publicly declared, and fully financed.

Confidence has gone to new levels.

The Financial Industry Regulatory Authority slaps Robinhood with a US$70 million fine for misleading customers, no big deal. The company’s upcoming IPO is expected to value (and I use that term loosely) this casino for the kids at US$40 billion.

In normal, more rational times, a company that plays fast and loose with the truth would be viewed (and priced) with suspicion. Not today. And certainly not in a market with fully invested bears.

But if (almost) everyone is in, how does the base of this pyramid scheme expand?

The 1 July issue of Barron’s included an interview with Michael Burry (made famous in The Big Short), here’s an extract (emphasis added):

‘“I don’t know when meme stocks such as this will crash, but we probably do not have to wait too long, as I believe the retail crowd is fully invested in this theme, and Wall Street has jumped on the coattails,” Burry told Barron’s via email. “We’re running out of new money available to jump on the bandwagon.”’

The bull has set up a beautiful bear trap…drawing as many people and their dollars in just before it snaps shut.

It’s an honour, privilege, and delight to watch markets — shares, cryptos, property — at their seductive best.

The brains of the most hardened get turned to mush. Losing all sense of value and objectivity.

Believing in the fanciful…even though history has shown us repeatedly what happens to these flights of fantasy. Yet, maybe, just maybe, it’ll be different this time.

It won’t be.

What people are forgetting is the Fed is only as powerful as the power given to it by the people. If or when investors lose their swagger and cockiness, the Fed is in trouble.

When the investor mindset shifts from ‘if you can’t beat ‘em’ to ‘I’m sick of being beaten’, we’ll have two powerful forces pitted against each other…a bullish Fed versus a bearish market.

In this heavyweight battle guess which side has a 100% winning record?

The market always wins…sometimes by knockout (like it did after 1929), and other times by grinding it out (as it did in the late 1960s to early 1980s).

The psychological progression from being fully invested to fully divested was a topic of discussion in the 31 May issue of The Gowdie Letter.

Here’s an edited extract:

‘US Investors are ALL-IN

‘Conviction in the “new” bull market remains strong.

“Despite some bumps along the way, the bull market that began at the end of March 2020 remains intact. After a period of consolidation around the 2020 presidential election, U.S. equities have ground relentlessly higher…”

Forbes 26 May 2021

‘Indices registering new highs is cause for widespread optimism.

‘Headline from WSJ on 2 May 2021…

‘As reported in the article (emphasis added):

“Americans are all in on the stock market.

“Individual investors are holding more stocks than ever before as major indexes climb to fresh highs. They are also upping the ante by borrowing to magnify their bets or increasingly buying on small dips in the market.

“Stockholdings among U.S. households increased to 41% of their total financial assets in April, the highest level on record. That is according to JPMorgan Chase & Co. and Federal Reserve data going back to 1952 that includes 401(k) retirement accounts. JPMorgan’s Nikolaos Panigirtzoglou, who analyzed the data, attributed the elevated allocations to appreciating share prices alongside stock purchases.

“The enthusiasm for stocks comes as market volatility has been edging lower and the S&P 500 has hit 25 records this year…”

‘Investor emotion can be so fickle.

‘At times, positively effervescent and at others, bordering on the morose.

‘Being “all-in” is the polar opposite of investor mood in August 1979.

‘While it’s seems inconceivable today, 42 years ago, Wall Street was being administered its last rites…

‘Unfortunately, the Federal Reserve Economic Data (FRED) discontinued the following chart from its series in 2014.

‘The chart tracked equity (share and mutual fund) holdings as a percentage of household total financial assets since 1952.

‘The higher the percentage, the more invested US households were in the market and conversely, the lower the percentage, the less interested they were in shares as an investment.

‘It was an excellent barometer for investor sentiment…

‘At the risk of stating the bleeding obvious…

‘Higher household equity weightings = market peaks.

‘Lower weightings = market troughs.

‘Hardly earth-shattering news.

‘Herd mentality is a primal instinct dating back to Adam.

‘When the pack runs in one direction (either into or out of the market), the majority instinctively follow.

‘With the most recent reading — by JPMorgan Chase — at 41%, we now have the most extreme level of investor confidence in 70 years…even surpassing the euphoric dotcom peak.

‘What we’re witnessing is the late-to-the-party investors wanting to make up for lost time and money…as quickly as possible.

‘The hype about this being a “new” bull market has lulled investors into a false sense of security.

‘A new bull implies there’s nothing to be afraid of…the bear is in hibernation.

‘Risk taking is all the rage.

‘Yes, the bear might be napping, but for how long?

‘[A look at market conditions we might soon be facing]

1966 to 1981

‘[This market] kept bouncing up against the 1,000-point level, but never mustered the strength to break through this psychological barrier.

‘After such an exhausting ride of down, up, down, you can appreciate why Businessweek advanced the idea of Wall Street being fatally wounded.

‘After nigh on 13 years of promise and disappointment, fatigue had set in…resurrection was a forlorn hope.

‘During this period, earnings went from…

‘1966 — $40.00 (1,000 points divided by P/E10 of 25) to 1981 — $125.00 (1,000 points divided by P/E 10 of 8).

‘Again, we see sizeable earnings increase counteracted by a significant contraction in the P/E10…another zero-sum game.

‘What should you do?

‘For those who want to exercise a degree of caution, now is the time to go against the trend.

‘History shows that when the mob is “all-in”, it’s time to be underweight equities and overweight cash.

‘Adopting this position means you have to ignore all the positive news about markets…and how much higher they are going.

‘The US market is edging closer to a point of inflection.’

Based on the law of equal and opposite forces, it’s reasonable to expect the most magnificent bull market of all time will be followed by one of history’s most devastating bear markets.

The fact most people will find the very mention of this to be extreme and totally incomprehensible is why it has the power to be so destructive.

Regards,

Vern Gowdie,
Editor, The Rum Rebellion

Vern is also the Editor of The Gowdie Letter and The Gowdie Advisory — investment services designed to help everyday Australians avoid the financial pitfalls of a volatile economy and make informed decisions to grow their wealth for generations to come.