C.J. Lawrence Weekly Market Comment – Irrational Exuberance? No. Healthy Skepticism.
According to most conventional measures, the current bull market in stocks has now earned the moniker as the “longest bull market in history”. Most peg the beginning of the current bull run to March of 2009. Since then, the S&P 500 Index has risen over 320%. That falls short of the previous appreciation record holder, the bull market of the 1990s, during which the S&P 500 climbed over 415%. The current bull’s impressive longevity has some market watchers anxious and calling for its imminent demise. But it is important to remember that bull markets do not expire on a timeline. Previous bull runs have varied in length and amplitude, while their endings were more often catalyzed by the unwinding of “excesses”. The end of the bull run in 1987 was accompanied by the proliferation of misunderstood portfolio insurance. Meanwhile, the bull markets of the 1990s and the 2002-2007 periods ended with the bursting of the internet and real estate bubbles. A common theme to most bull market endings is that sentiment becomes decidedly bullish and investors can be found piling into stocks just prior to the market peaks. Famed stock investor, John Templeton, is credited with the quote, “Bull markets are born on pessimism, grow on skepticism, mature on optimism, and die on euphoria.” If equity and bond fund flows are good proxies for investor sentiment, this bull market is a long way from euphoria.
On Wednesday, the Investment Company Institute published its weekly estimate of net equity and bond fund flows. The results were consistent with the pattern witnessed over the past three years. Domestic equity mutual funds and exchange traded funds (ETFs) continue to experience net outflows, while bond mutual funds and bond exchange traded funds continue to experience inflows. Net flows out of domestic equity funds totaled $66 billion in 2016, $50 billion in 2017, and have already experienced $87 billion of outflows year-to-date 2018. That compares to massive inflows into bond funds of $190 billion in 2016, $381 billion in 2017, and $169 billion of inflows year-to-date. The trend suggests that most retail investors, the largest buyers of funds, still lack conviction in the stock market rally and prefer the perceived relative safety of bonds. This is hardly “euphoric” behavior. Some might even suggest that the retail investor is still back in the skepticism phase.
The lack of bullish sentiment is also confirmed in the American Association of Individual Investors’ weekly Bull-Bear survey. Bullish sentiment stands at 38.5% which is at the survey’s long-term historical average. On the institutional front, put-call ratios on the S&P 500 Index are neutral, suggesting a lack of conviction among institutional traders looking out over the next six months. Volatility, as measured by the CBOE VIX Index, which tends to elevate near market tops, closed the week below 12, versus a year-to-date average of 15.5. To be sure, there are plenty of risks to this bull’s health including a potential slowdown in global economic growth, trade and tariff disputes, U.S. political upheaval, and emerging market weakness, among others. But the classic set-up of a euphoric top is not materializing and that could mean that this bull’s matador may not yet be in the arena.