Comfort Concerns - Weekly Blog # 672

 

Mike Lipper’s Monday Morning Musings

Comfort Concerns

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018 –

Good Numbers

This week’s US stock market performance numbers are great: Dow Jones Industrial Average (DJIA) +4.07%, NASDAQ +3.09%, and S&P 500 +2.74%. (Cannot expect to keep up this rate.) Individual investors apparently believe these bullish results can continue for at least six months. The American Association of Individual Investor’s (AAII) weekly sample survey indicates that 49.4% are bullish, up from 40.3% the week before. (Market analysts treat the AAII numbers as a contrarian indicator.)

One of the underlying supports for this bullish attitude is the average per person wealth in the US surpassing its former peak, which occurred just prior to the Coronavirus hitting. This is true, according to the Federal Reserve, even excluding the net worth of the 2100 US billionaires, who produced an average per household net worth of $330,000. (In view of these numbers, one wonders if the various stimulus measures passed, and other discussed, are going to unleash high inflation, with too many dollars chasing too few dollar-earning assets.)

By far the largest portion of the average American’s wealth is invested in financial assets (equity and fixed income), followed by real estate. A sample survey of people expected to receive stimulus checks indicates they plan to put half of it into “the market”. This appears to be particularly true of younger or inexperienced investors.

Late Stages

Often, individual and institutional investors who’ve built up their cash reserves, as many currently have, get sucked back into the market. (There is the story of Sir Isaac Newton, the famous scientist and the Master of the English Mint, who withdrew his personal assets from the market in the early stages of “The South Sea Bubble”, only to be sucked back in during the momentum move at the end, losing all his money.) Investors, recognizing the declining value of their money relative to the sharply rising value of tradable assets, often feel the need to quickly catch up and concentrate their purchases on what is moving up the fastest (momentum). 

Interpreting Fund Flows and Yield Curves

The combination of flows into both conventional mutual funds and exchange traded funds (ETFs) has been positive the past few weeks. This represents a change for mutual funds, particularly equity funds, which for many years have been in net redemptions, despite generally good absolute investment performance due to actuarial and job-related issues. 

Investors reaching retirement age often reduce their perceived risks by reducing their equity exposure. Sometimes, this switch comes earlier than expected due to an earlier than planned retirement or a business difficulties. Exchange traded fund products often attract shorter-term investors, who want to capture market volatility and some tax advantages.

The recent change in the aggregate behavior of fund buyers suggests, similar to The South Sea Bubble, that normally conservative investors feel their reserves are losing value relative to equities. This past week, investors put a net $45 billion into funds, with $29 billion going into money market funds and only $15 billion into equity funds. $1.1 billion went into tax exempt funds and $683 million went into taxable bond funds. I suspect a good bit of the money going into money market funds was transitioned from other investments.

The US Treasury yield curve tracks the difference in yield at various maturities. Interest payments are made to investors for delaying the consumption of their wealth, or for investing in more active and speculative securities. It makes sense that the longer investors delay spending their money, the more they should demand from borrowers,  often the US government. Investors traditionally need to guess how much purchasing power will be lost over the period they lend their money out. When they demand higher interest rates, particularly for extended periods, they are gauging their inflation risk. 

Today, there is a major dichotomy between what the US Government thinks long-term inflation will be, through the Fed and Treasury, and what the commercial world thinks. The US Government thinks it’s under 2%, while the JOC-ECRI Industrial Price Index year over year change is now +59.48%! Even if one discounts the index by 90% due to its volatile composition, this suggests future investors dealing with inflation rates in the region of 5%. This 2-5% spread is enough for some investors to change their asset allocations.

In searching for investments to protect against the markets being flooded with cash and materially higher inflation; it is normal to look for an investment with momentum behind it. In many ways momentum is a catch-up move to compensate for prior slow or down periods. Thus, it is not surprising that 16 of the best performing mutual funds for the week were small-cap funds, with the others tied to rising energy prices or financials expected to be flush with earnings from reserves that are too high. 

Warning!!

Four of the worst performing funds for the week were invested in the China Region. This is disturbing, as China is the single largest contributor to both global growth and world trade. The authoritarian government is actively attempting to address a growing debt expansion. While the debt is on the books of various provinces and non-bank financials, it is both a political and economic problem for the central government due to the exposure of the Chinese people. A slower growing China could be a major concern for the rest of the world.

Conclusion:

Each investor should review the concerns raised in this blog and make their own decision as to how to apply these possibilities to their multiple investment responsibilities. Please don’t ignore these possibilities completely. 

Also, if you would like to discuss, I would be happy to have a Socratic discussion with you. 

Did you miss my blog last week? Click here to read.

https://mikelipper.blogspot.com/2021/03/next-race-winner-weekly-blog-671.html

https://mikelipper.blogspot.com/2021/02/did-something-happen-last-week-weekly.html

https://mikelipper.blogspot.com/2021/02/debt-inflation-and-markets-weekly-blog.html

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