Opportunity
wasted
Being invested simply isn't enough. We have been warning for weeks that despite
the market indices registering sequences of new highs, the valuation expansion
in stocks has far outpaced the vast majority of underlying economic data. As a result, one must not only be invested to
take advantage of the market's good fortune, but be invested carefully and with
acknowledgement that, in every market cycle condition, there are leaders (which
must be over-weighted) and laggards (which one tries to under-weight). As this "parallel disconnect" of
divergence between fundamentals and valuation widens, we have to be careful
about not conflating the two data sets as one, but instead be nimble enough to
distinguish amongst the two using prudent methodology and asset allocation.
No one is trying to
extinguish your enthusiasm for portfolio performance during the past 6
months. We do want, however, to identify
the differences between an all-encompassing bull market and a news-driven
hyperbolic response to exaggerated expectations.
What concerns me about
unabated euphoria is that profound deterioration of relative strength quotients
sometimes is overlooked, later to be manifested into problems that could have
been averted.
Here, too, the figures
are quite compelling that this is not a market of benevolent generalities, but
an incredibly selective rally that favors speculation and euphoria over deferential,
but muted, fundamental analysis. The
fact that we are limited by upside price resistance points in the bull run
should have "warning sign" written all over it.
To be sure, it is
encouraging (and fun) that the market didn't just go "the other way"
after the US election or the Brexit vote.
But advancing without regard to mathematical standard deviation and
"norms" usually means a commensurate inverse response later
on. That it hasn't happened is
compelling; that it might is foreboding.
Another unique
characteristic of this rally is that it is happening in the absence of
competitive "alternatives" from the bond market. For lack of a better phrase, stocks have been
the only game in town for several years.
Against this backdrop one would be blind not to consider that the
market would drive steadily upwards.
This does not mean, however, that everyone feels comfortable with this
strategy. Let's just say that owning
stocks to the exclusion of anything else works at present...until it no longer
does!!
Reinforcing
what’s there
There is, in fact, no
clear indication that "judgment day" is imminent. To the contrary, no trends have given any
signals that their upside journey is due to expire. But bear in mind that in my world of parabolic quantitative science all things down will go up, and all things up
eventually will go down. Such is the
nature of computing probabilities using quadratic equations and sine waves.
The real roller coaster
of the market is usually found in short term emotional volatility in which the
news of the day (we call it "exogenous
noise") diverts one's attention from longer term top-down
analysis. This is where sharp
divergences over the near term become smoother lines when seen the through the
prism of time. Here again, absent any suitable
investment alternatives from other asset classes, the trend lines for stocks
become somewhat skewed as to their accuracy about depicting the real underlying
economic fundamentals versus everyone's desire simply to be invested, and not
to miss all the upside action.
Do not under any
circumstances confuse your portfolio good fortune with a never-ending upside
trend line or presumptuous strategies of aggression. The fact is that the next correction will
become reality at some point, and it makes no sense to throw all one's eggs
into a single basket without also remaining diligent about investment discipline
and practical portfolio methodology at the same time.
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