Tuesday, February 4, 2020

The Madness of Crowds! Or is it?

Chatting with Nick after the market close today: Both of us marveling at the willingness of investors to buy into a market that trades at its all time high and that, by some metrics, sports record valuations; amid the highest ratio of corporate debt to GDP in history, amid half of all investment-grade corporate debt garnering the lowest-tranche credit rating (and other hugely problematic developments in that space), amid a virus outbreak that has hobbled the second-largest economy in the world, amid the imminent failure of what's been dubbed by some as the greatest trade deal in history (China making good was a stretch even before coronavirus), amid a mixed, at best, global macro setup, amid...well... there's more but I'll stop there.

So, it's all utterly crazy, right? I mean no sane investor would buy into such a setup. Well, I did reference Charles Mackay's classic The Madness of Crowds during our conversation, but, aside from that, there is some methodology behind the seeming madness. Three things immediately come to mind:

1. This bull market has been fed consistently by central bank stimulus; and whenever they tried to cut the flow, the market sold off. Hence, now that the spigots are wide open once again it's buy buy buy!

2. It's an election year in the U.S., summer Olympics in Japan, and, among other global political incentives, next year China celebrates the 100th birthday of its communist party. Traders logically presume that the powers-that-be will pull out every fiscal bazooka they can muster and fire them directly at their respective economies.

3. While it may appear that the world has gone mad for stocks, while there have been moments over the past 10 years (like this particular one), for the most part this bull market has seen relatively low participation from the rank and file investor class. Far and away the biggest buyers of stocks have been the underlying companies themselves. I.e., there may very well be notably more fuel to push stock prices notably higher.

So I asked Nick (he -- having been raised by a market maniac -- in no way needed this enlightening by the way), rhetorically of course, tell me what the ideal market setup -- if you were a buyer -- would look like? 

I then essentially recited the opening paragraph above, and said; or would it be when stocks are cheap by most metrics, when the major indices haven't just rallied to new all time highs, when corporate balance sheets are clean, lean and mean, when the world's countries, and, therefore, global supply chains are not at odds with one another, when the Fed doesn't need to print money by the tens of billions a month and keep interest rates at ungodly low levels, when the macro data reads bullish across the board (like in late 2017), when yada yada yada?

Bottom line folks, there are legitimate reasons the market keeps moving higher, just not fundamentally legitimate reasons. Hence, this is the kind of setup from which things have the highest odds of becoming very messy, and, therefore, it demands caution.

By the way, speaking of heavily indebted companies, literally while typing this the following newsflash crossed my screen:
"Macy's to close 125 stores, cut 2,000 corporate jobs, in hunt for growth."
Yes, Macy's carries a lot of debt on its balance sheet, with a BBB- credit rating and negative credit outlook from Standard and Poor's: A sign of the times (i.e., it's not only about Amazon)...

P.s. I highly recommend Charles Mackay's volume, Extraordinary Popular Delusions and The Madness of Crowds...

No comments:

Post a Comment