Most investors spend their time worrying the Fed is going to cut the party short. Historically speaking, that has often been the role of the central bank—keeping things from getting too out of hand. However, Fed chief Powell does not appear to want to be the sober chaperone at the party this year, as the dovish positioning is heavy. Accordingly, there seems to be a strong chance of a melt up in stocks right now, or a big late stage rally. UBS, however, says the opposite, arguing that investors will stay hesitant because of high valuations and weak earnings.
FINSUM: We don’t think there will be a melt up. We just think the market will re-enter the post-Crisis goldilocks mode they were in, where rates are low and the economy is healthy, clearing the way for multiple expansion.
On the one hand the market looks very healthy (new all-time highs every day), but if you look more deeply there are some signs of dysfunction that appear as though they may spill out into the biggest indexes. Demand for risk assets looks quite weak. Consider for instance that the Russell 2000 is hurting even as large caps rise. Similarly, junk bonds are not doing well despite the seeming risk-on environment. Both of those developments show that liquidity is lacking. “Small caps are more sensitive to liquidity issues, both good and bad”, says a market strategist.
FINSUM: The weakness is small caps and junk bonds shows that more investors are sitting on the sidelines right now, but that does not necessarily mean trouble more broadly.
The market may be way up this year, but there are still some great values out there. The average P/E ratio of the S&P 500 is 16.7, yet 67 of the companies in it trade at below 10, triple the amount of five years ago. Here are a handful of blue chips that are very cheap, but have strong market positions, decent profitability, and nice growth positions: Delta Airlines, Bank of America, Kroger, homebuilder Lennar, and BorgWarner, a maker of car components.
FINSUM: These seem like great picks, but they also appear to be the victims of the long-term decline in value investing. Investors keep thinking value investing will bounce back, but it hasn’t.
Greedy is not usually a word associated with anything positive, but in this instance it seems fair. What we mean is that the market’s performance through the first half of this year has been so good, that investors need to double down on stocks. That likely sounds counterintuitive, but history tells us otherwise. When stocks have a good first half (and they surely have), then they are 60% more likely to finish the year strongly as well. On that basis it would make sense for investors to put more money into equities or at least don’t take any chips off the table.
FINSUM: We like this logic. While we do have some bearish reservations about the market right now, we think Trump is going to make sure to not do anything to derail stocks, as doing so might derail his re-election campaign.
Investors need to take note, as one of the biggest equity research divisions on Wall Street has just turned overwhelmingly negative on equities. And this is not the “stocks will struggle in coming years” kind of call, it is an argument for right now and published yesterday. The bank has lowered its allocation to stocks, saying that the outlook for markets over the next three months is very poor. Morgan Stanley says equities prices are way too high and expectations for major rate cuts are already priced in, leaving little room for appreciation. They also think valuations are too high given deteriorating manufacturing and economic data.
FINSUM: Morgan Stanley is basically saying that the market is primed for disappointment because all the positive outcomes have already been priced in. Not unrealistic.