A Major Top?

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If nothing else, the bear camp is certainly consistent.

Despite the fact that the stock market (as defined by the S&P 500 Index) is up +16.2% year to dates and both the Dow and S&P are a buy-program away from new highs for the current bull market cycle, our friends in fur continue to pound the table that the end is nigh. In fact, one of my now self-proclaimed “perma bear” buddies said yesterday that the market “Feels to me a lot like 2007 and this isn’t going to end well.” Yikes.

But in the next breath, my friend, colleague, and lifelong fan of “da Bears” stated that the only thing that really bothers him about his less than optimistic outlook is the fact that there are so many people that agree with him. His point was that there are lots and lots of high profile, respected analysts and fund managers that are openly negative about the macro view. And as my friend stated, “Tops don’t happen when everyone is negative.”

Think about that for a moment. In 2007, stocks were making new highs and the bulls were riding a four year string of gains. The economy was growing. Housing was booming. Jobs were plentiful. And corporate earnings were projected to reach yet another record high the following year. Not surprisingly, those with a bearish macro view were few and far between. What this means is that nearly everyone, everywhere was fully invested in “risk assets” and next to nobody (save John Paulson, Kyle Bass and some others) was worried about the sky falling.

Compare that to today’s global macro outlook by doing your own little survey. Ask five people who you believe to be savvy from an economic and/or investment perspective about their outlook for global growth. My guess is that you will hear about Europe and the drag the debt crisis will have on the global economy. Next, you will likely hear about China’s growth slowdown as well as many other emerging market economies. Then there is the fiscal cliff. In addition, it is an odds-on bet that a slowdown in earnings growth is going to be mentioned. You may also hear about the Middle East, oil prices, and the potential for inflation to perk up soon. But there is little doubt in my mind that the majority of the people you survey will have at least a reason or two as to why you should not invest in stocks.

Now let’s talk about what individual investors are doing. Although stock market investors have enjoyed decent gains since the crisis ended in March 2009 (the S&P is up +116% since then) the public has been pulling money out of stock funds at a breakneck pace. After the tech bubble and the credit crisis, it appears that John Q. Public has seen enough. And in response, individual investors have been shifting massive amounts of money from stocks into bonds. Just last week, over $11 billion was pulled from equity funds in one week alone – the largest such withdrawal since after the U.S. debt was downgraded. And where did that money go? Bond funds, of course. Despite near record low yields on bonds, bond funds posted their largest inflow in three years last week.

Then there are the technicians. We’ve heard about the divergences on the charts, something called “3 Peaks and a Domed (or is it “doomed?”) House,” and a great deal of talk about the lack of volume these days. We hear daily about how HFT is ruining the stock market and about how the game on Wall Street is rigged to favor the big banks. In other words, the stock market isn’t the subject of cocktail parties and our kids don’t want to all become stock brokers and investment bankers these days.

The point is that despite the fact that the stock market is near its highest levels seen in five years and not that far away from all-time highs, the bearish view remains at least as, if not more popular than the bullish outlook. And in terms of folks being overinvested in equities or over believing in the prospects for the future, the opposite case is likely more true at this time. As such, there is no “irrational exuberance” in stocks. Heck, there is barely any exuberance at all.

The bottom line here is that major tops in the stock market don’t tend to occur when everyone is looking for them. And while I will agree that the macro outlook isn’t exactly peachy keen, this is something very important to keep in mind. In my humble opinion, too many people are fighting the last war (the brutal bear markets of 2000-03 and 2007-08) and are missing out on some decent opportunities. And this is why I remain relatively agnostic in my outlook and prefer to stay in line with my market models, which currently aren’t half bad.

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