Analysis: Is the stock market just madly optimistic?
Has the stock market completely lost its mind? You can certainly be forgiven for thinking so.
We are plainly in the middle of an extraordinary economic crisis.
Job losses are arriving like stock car pile-ups. Government borrowing is moving from billions to trillions at alarming pace. Zillions are next.
Asked to provide a historical comparison point, a City economist replied dryly: “There isn’t one.”
The stock market appears not to care less. The FT notes that the S&P 500 index completed its best 50-day run in history on Wednesday.
In London, the FTSE 100 has been on a tear. Since falling below 5000 in mid March, it has now boomed back to 6350.
The pink’un quoted a hedge fund partner thus: “The markets are priced to perfection.” By which he means that they are assuming things will go well from here.
“The stability in equity markets does not reflect the job losses and the insolvencies ahead of us globally.”
What does it reflect? Insanity? Perhaps.
Some hedge funds have certainly started to bet heavily on a crash later this year, arguing that prices can’t be this detached from reality for ever.
The reason for the present exuberance is probably no more than just supply and demand.
There is lots of money out there and it has to go somewhere. It can’t just sit in a bank account earning zero interest.
Government bonds, at least in traditionally solid countries like the UK and the US are yielding almost nothing.
So shares in big companies that will survive as long as enough of us do look attractive.
Neil Wilson at Markets.com just thinks the sellers have already sold.
“I don’t think we have seen big flows into equities from institutions,” he said. “It’s just no one is really selling because sellers were already forced out. What you saw in March was a market with zero buyers. What have now is few sellers even if risk appetite isn’t that strong – so it just nudges up and up.”
The pointy heads at Bank of America securities said in a note this week that “the strong shall inherit the earth”, with the Wall Street rally led by survival of the fittest “Darwinian winners” – big pharma, big tech.
But it warned that stocks will need constant government stimulus to keep moving forward. Once that stops and the real economic pain begins, shares will probably head back down, it reckons.
Without the stimulus propping up the bond market and corporate debt market yields get let off the leash and the bond and stock markets could tumble together.
Russ Mould at AJ Bell, a man with a memory for a phrase, says: “During my broking career a super-smart hedge fund manager told me: ‘The market does whatever hurts the most people most of the time.’ So we had a mass panic in March, much selling … and lo and behold the market hit bottom and began to rally hard (and entirely unexpectedly). Cue a mad dash to clamber back aboard in April as fund flows turned hugely positive again. Applying the hedgie’s maxim then, it is legitimate to worry that sentiment has turned too far, too fast.”
The grim economic figures and corporate reports now emerging reflect events in March, April and May – they are backward looking.
Markets of the view that we are past the worst in terms of the economic downturn and trying to assess the pace of the recovery.
Investors think things can’t get much worse.
“So the logic goes – if things cannot get much worse, they are going to get better. And if they are going to get better then we had better start buying now so we don’t miss out, because when they do get better prices will have moved and it’s too late.”
Let’s hope stock markets are right about the future rather than hopelessly optimistic. And that governments keep injecting those billions and trillions until we are truly safe.
