The Most Disrespected Rally In History | Cato's Domain

A couple weeks ago The Wall Street Journal issued up three items I found interesting.? First, that equities continue to be sold off by individual investors to the tune of about $40Billion a month, with the money moving into bond and money market funds.? Second, that trading volumes on the Big Board and NASDAQ are about 20% lower than last year.? Third, that equity market indexes are near five year highs.? One WSJ writer called it the ?most disrespected rally in history?.

These would seem to be contradictory trends.? Selling off and falling volume doesn?t usually drive markets to five year highs.? The answer, my answer anyway, is simple and straightforward and not at all comforting.? Long term investors are exiting ? mea culpa, I?m at the highest levels of cash and short term bonds in my 45 years of investing ? and all that?s left in the markets?is a phalanx of day traders and arbs and speculators.

In a healthy market professional traders always account for at least?80% of the trades, the individual 20% or less.? That?s just the nature of modern equity markets.? So the 20% drop in trading volume suggests to me that individuals are leaving not in a trickle but in a flood.? And in fact mutual fund and market information confirms that this has been going on for the last four years.? The transfer of money into bond and money market funds is also confirmed.? So far so good.

The thing is, individuals tend to be oriented to true investing, seeking out stocks that will grow over time.? They are 401k investors, with years and decades in their investment horizons.? Pull them out and ?

? that leaves professional investors alone?in the markets, most of whom are not Warren Buffett.? These are ?high frequency traders? who trade stocks by computer algorithm in micro-seconds?and professional money managers for whom ?long term investment? means 30 days.

These hyperactive?pros?are clearly not motivated by fundamentals like strong management,?research & development and sales and profit potential.? They trade on ?technicals?.? The micro and macro transitory events that push stock prices around on a daily or weekly basis.? Unemployment reports.? Import-export reports.? Corn futures.? Put-call ratios.? ?Volatility? indexes.? Charts.? And especially?the potential actions of the central banks.

Pros know what we all half-realize: there is no real government in the western democracies right now except for the central banks.? In the US, Congress is frozen.? The President rules by diktat and solely for political and ideological goals.? Europe has no real government at all; politics is a cacaphony.? Only the central banks matter.? And it?s the ?easing? actions of the Federal Reserve and European Central Bank, those actions that have already happened and those that could happen soon, that are driving these professional traders to push markets to new highs.

Each time the US Federal Reserve has ?stimulated? the economy by printing money ? QE1 & 2, Operation Twist 1 & 2 ? the stock market has rallied.? The reasoning of traders is that all that money has to go somewhere and that a lot of it will end up being used to buy stocks.? Markets rose in price?after each money injection by the Fed over the last three years.? So if you trade on charts and assume the past is the future, you expect markets to rise again if the Fed injects again.

The market highs are underwritten by nothing more substantial than short term traders betting that the Fed and EBC and other central banks will print a ton of money soon.? And they, the traders, believe they are quick enough and smart enough to capitalize on that injection of money, then get out before the hangover sets in.? Make sense?

Not to me.? These modern-day, computer armed day traders are trading solely with each other.? Who else is left?in the market to trade?with?? This is the ?greater fool theory? programmed and professionalized.? They all have the the same thing in mind.? And they all act identically.? I can?t recall when the herd instinct more dominated Wall Street than it does today.

There?s an ancient Wall Street adage: buy on the rumor, sell on the news.? When the Fed finally does act, traders all have their computers programmed to sell??on the news?.? They will all try to sell at once, just as they are all now buying at once in anticipation of the central banks actions.? There?s going to be a pile up at that exit door and I don?t want to be part of it.

Long term investors, often derisively called ?dumb money? by the??smart money? pros, are in my mind wisely?leaving the markets.? These are people very much like me.? People?who have been in the markets for?years, some of whom like me?have stayed 100% invested through several bad bear markets ? 1973-74, 1980-82, 1990, 1994, 2000-02, 2007-09.? We?are leaving now to the tune of $40Billion a month.? I?d recommend that.

Let the traders and arbs?play ?greater fool? with each other.? Let them read their charts and graphs and crunch their numbers, as the ?quant? traders do.

If all we?ve got to look forward to, to drive equity prices, is more Fed easing, this is an economy and a stock market true value-driven long term?investors are better off out of for the moment.? Dry powder is the order of the day.? Crisis breeds opportunity in its wake, and there will come opportunities.? But not just now.

And in reply to that young WSJ reporter, the one who can?t understand what?s going on: this rally richly deserves to be the most disrespected in history.

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Source: http://catosdomain.com/?p=8868&utm_source=rss&utm_medium=rss&utm_campaign=day-traders-markets

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