The bulls are back.
Leading world stock markets are impressing observers with new record highs. The Cayman Journal explains why this is happening and what speaks in favor of following the bulls on their way up.
For almost three years the world stock exchanges took a time-out. After being placed on hold for so long, many market participants already feared the end of the bull market, which began in March 2009. But with an impressive comeback, the bulls recently eliminated all of these doubts.
During the fourth quarter of 2016, the leading U.S. stock market indices initially began to set new record highs. Around the turn of the new year, other markets started to follow, and in the meantime, even the broad global equity benchmark MSCI World Index, which contains stocks from 23 developed markets countries, started chasing records again. Also very encouraging: Apple, the stock of the world’s most expensive company, recently ended its own two-year-long breather with new records.
The charts scream ‘buy’
From a chart-related point of view, these are all pro-cyclical buying signals of the highest quality – all the more, as the list with promising chart-images can be supplemented almost arbitrarily with further examples. Every investor who believes only a little in the signal-power of charts cannot leave such a chance unexploited.
However, it is not just the charts that suggest such an action. There have also been major positive developments in the economy as a whole, and compared to the recent past, companies lately are delivering on average more positive earnings surprises.
The recent more favorable environment can also be deduced from the BofAML Fund Manager Survey (FMS) Macro Indicator. Its calculation is based on five parameters: Investor inflation expectations, capex demand, risk appetite, cyclicals (industrials, materials and tech) versus defensive sector (staples, telcoms and utilities) positioning, and equity versus bond positioning. The rule says to sell global equities when Global FMS Macro is deteriorating and cash level has fallen by at least 50bp relative to the past two months, or to buy global equities when Global FMS Macro is improving and cash level is rising relative to the past two months.
Currently the indicator is in “buy” territory as FMS Macro has been trending higher for the past seven months and cash level is higher than it was two months ago. According to BofAML Chief Investment Strategist Michael Hartnett, this is a bullish combo for risk assets because investors have been reluctant to deploy cash even though FMS Macro is positive and clearly on the upswing.
Watch the euphoria level
The aim of this article, however, is not to lead the readers to believe that we are living in a perfect new world. Rather, the resumed record hunt is accompanied by a number of risks. These include protectionist tendencies, increasing political populism, ongoing terrorism, renewed crises risk in the EU, unresolved debt problems or relatively high U.S. stock market valuations. In addition, there are certainly other dangers which can cause uncertainty among investors.
The latter point, however, is actually one of the major strengths of the current bull market. As everyone remembers, since the bull market started in 2009 there has never been a lack of trouble spots. Ultimately, despite the strong price gains that were locked in over the past eight years, this has helped to prevent excessive optimism. This, in turn, is reminiscent of Warren Buffett’s saying that the secret to getting rich on Wall Street is to be greedy when others are fearful and to be fearful when others are greedy.
This may be simplistic, but it contains a kernel of truth. From that point of view, the current mood among members of the American Association of Individual Investors is encouraging. According to the latest survey, only 33.1 percent of respondents are bullish for the next six months. Despite the eight-year bull run on Wall Street, the share of optimists is currently lower than the average rate of 38.5 percent since 1987. On the other hand, the number of bears is 32.4 percent above the historical average of 30.5 percent.
There can be no talk of real euphoria. This assessment is particularly true for Europe, including Germany. Hardly anybody there indulges in optimism. As a reminder, in early 2000, shortly before the TMT bubble burst, it was quite different. At that time there were whole compartments in commuter trains to Frankfurt, in which the only talk was of how much profit the next new initial public offering would bring. Whoever observes something like this ever again should pull the emergency brake and sell all his investment positions immediately. However, as written before, this experience from the past cannot be compared with today’s mood among most investors.
Current situation favors bets on rising indices
Of course, things can always change. In the U.S., President Donald Trump is doing everything he can to revive the “animal spirit.” His primary aim in that respect is to increase the willingness of companies to take more risks again. Should he succeed, this spirit will probably also skip to the stock market. As soon as desirable optimism becomes harmful euphoria it will be important to leave the party in time. Before that, however, it is important to use the next wave of euphoria in one’s own favor, since in the past the last leg of bull markets was typically connected with euphoria, which drove the stock prices up in a significant way.
From the point of view of the bulls, however, it would be best if Stephen Suttmeier is right. The BofAML technical research analyst thinks the recent upward move of the S&P 500 Index could be a sign for a secular bull. At least he sees the S&P 500 breakout from the 2000-2013 trading range as a secular bull market breakout similar to those in 1980 and 1950. These prior secular bulls lasted until 1966 and 2000, respectively. This means, in his view, that the secular bull market triggered in the April 2013 breakout remains at an early stage with at least a decade more to run.
“Should history repeat itself, the secular bull market road map says that the best days are ahead with S&P 500 Index at 3.000 points by 2019 and at 5.000 points by 2024,” Suttmeier says. As a reminder: At the editorial deadline, the S&P 500 Index was trading at 2.351 points.
Looking so far ahead, like Suttmeier does, is probably not everyone’s cup of tea in our fast-paced world. Finally, such long-term forecasts are always subject to potential new external disruption, including, not least, a new EU crisis or the outbreak of a war. To protect the portfolio against such negative events, it is advisable to use stop loss orders.
Irrespective of such protective measures, however, the following applies: Should severe new crises fail to materialize, the current situation on the world stock markets can be considered as very promising. Under such conditions, the chances are good that the prices can move up further on a wall of worry before euphoria could set in later on. Anyone who can follow this way of thinking should put some money to work in ETFs whose underlying indices just generated fresh pro-cyclical buying signals.