The Big Picture - Macro Perspective on the Capital Markets, Economy, Technology, and Digital Media

Kate Welling does great interviews. (I spoke with her in June of 2009). A few weeks ago, she interviewed Michael Belkin, who is not well known to the public, but is widely respected by the institutional side. To understand why, see our Quote of the Day from July 29th, 2008.

Belkin points out that, despite what so many people claim, following the freefall last year, the bubble is not in stocks. And as we have shown previously, after major secular bear markets, you should expect a substantial bounce.

The bubble, Belkin argues persuasively, is in bonds. QE policies driving rates to zero percent, and despite the low rates, investors have poured cash into bonds.

Here’s a brief excerpt:

Where my views are probably different than what some of the higher profile names are currently saying is that I’m not pointing to the equity market now as the source of a bubble or of malinvestment, in Austrian terms.

If not the stock market, where are you pointing?

At the bond market. Specifically, since the March 20, 2009 turning point in the equities market, if you look at the AMG weekly data on inflows into ETFs and mutual funds,bond fund flows have been positive every week and have averaged $4 billion a week. There hasn’t been a single down week. But meanwhile, for equities funds, there’s been a completely different pattern. They’ve been down two weeks, up one week, then down, up four weeks, down five weeks —and the average inflow is only $500 million a week.

Just barely positive?

Yes, at last count only $24 billion had gone into all kinds of equities funds over this entire
recovery rally, versus $178 billion into bond funds. I’ve been looking at this for quite a while
and sort of scratching my head and wondering what was going on. But finally it just occurred
to me. They’re buying bonds. It’s rather obvious. I think what has happened is that the thepublic in previous cycles bought emerging market funds or internet stocks or whatever, when the Fed would lower interest rates to an artificially low level, thereby penalizing people on their savings. So right now, for instance, I have friends who inherited a lot of money and I’m an informal advisor to them, not a paid advisor. They keep asking me, what do I do now? They were investing in CDs, that were parceled out to a lot of different banks on which they were making 2, 3, 4%. But now they’re maturing and the banks are offering, like, nothing. So they are asking, what do we do, what do we do? They need the yield; they need income; they don’t want to lose the nominal principal. What to do? What to do?

Belkin’s time series regression analysis analysis is not only data driven, but he is alsoaware of historical predecessors. I find his argument that Bonds are at greater risk than stocks to bevery counter-intuitive, contrary — and compelling.

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US Fund Inflows From Market Bottom Mar 2009-Now

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Source:
Still Bullish
listeningin VOLUME 12, ISSUE 2
Weedon@Welling, JANUARY 22, 2010
http://welling.weedenco.com/

American Association of Individual Investors (AAII)
Equity Allocations, Deviation versus 21-Year Mean

chart courtesy of Fusion Analytics

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Here’s my partner, Kevin Lane:

“As seen above in the chart above individual investor allocations to equities has only recently moved back above its 21 year mean allocation of 60%. The massive under allocation to equities in late 2008 into the 2009 low was one of the major reasons we became so bullish on stocks since it suggested that selling was washed out of the market and that massive liquidity (aka – buying power) was built up ready to buy back into stocks.

That said we have seen assets rotate back to equities over the last 10 months and the market, being a liquidity driven animal, has responded accordingly. Currently investors have only a slight overweight to equities at 4.00 % above the 21-year mean or stated another way investors are now 64.00 % allocated to equities versus the 21-year mean of 60.00 %.

This is one reason why we continue to believe that after a bit of a correction stocks can move higher as investor liquidity is still not tapped out yet.

While not as ample as near the lows buying power still remains adequate to power/move stocks higher and keep corrections fairly well contained.

-Fusion Analytics

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UPDATE: As the title suggests, this is a Sentiment Review. It is based on a survey that AAII does, and we track changes as the oscillate around a historical mean.

There are two things to understand about this: When it reaches an extreme, it is a warning of an impending reversal; Second,it generally trends from one extreme towards the other.

Funny how these things work: In a rant Friday morning, I wrote:

“Regular readers know that I despise political parties, believe partisans suffer brain damage — literally, they have the same cognitive deficits that ardent sports fans suffer. I have trashed both Bush and Obama, but moved to a bullish posture when despite either’s incompetence, they accidentally did something that caused a bullish set of factors to predominate.”

Later that same day, an emailer pointed me to an article at Smart Money looking at a similar phenomenon: Do our cognitive errors affect even our most fundamental perceptions of reality?

A new study in the journal Psychological Science offers compelling evidence that the answer is yes:

“In their paper, “Wishful Seeing,” Emily Balcetis of New York University and David Dunning of Cornell report the results of their research showing that people are not only biased in their reasoning but are actually biased in their visual perception — literally, how they see the world.

In a clever series of experiments, Balcetis and Dunning show that people reliably misperceive how far away an object is based on how much they desire it. That is, more desirable objects appear closer. In one study, the researchers had people sit across the table from a full bottle of water and then had them either eat pretzels or drink water from an eight-ounce glass. After being shown a one-inch line as a reference, the participants were then asked to estimate how many inches separated them from the bottle of water. Consistently, the thirsty participants perceived the water bottle as being closer than did the quenched participants.”

Fascinating stuff.

And it is more proof as to why you don’t want to become infected with bad ideas, poor analysis or bias from various quarters.

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Sources:
Do You See What I See?
Ryan Sager
SmartMoney.com, January 22, 2010
http://www.smartmoney.com/investing/economy/do-you-see-what-i-see/

Wishful Seeing: More Desired Objects Are Seen as Closer
Emily Balcetis and David Dunning
Psychological Science, 17 December 2009
http://pss.sagepub.com/content/early/2009/12/16/0956797609356283
(DOI: 10.1177/0956797609356283)

Jonah Lehrer – Jonah Lehrer is an Editor at Large for Seed Magazine and the author of How We Decide and Proust Was a Neuroscientist. He graduated from Columbia University and studied at Oxford University as a Rhodes Scholar.

He’s written for The New Yorker, Nature, Wired, The Washington Post and The Boston Globe. He is also a Contributing Editor at Scientific American Mind.

Hat tip Paul

In today’s Barron’s, Mike Santoli very politely and quietly, using language suitable for a family dinner, calls Charles Biderman out for his clueless commentary about secret government cabals:

“One conspiracy theory gaining undeserved traction on Wall Street lately holds that the Federal Reserve or another government entity might — or must — have been a buyer of stocks or stock futures during the run higher off the March lows.

A report by fund-flow research firm TrimTabs Investment Research a couple of weeks ago intensified the usual conspiracy chatter in the blogosphere and across trading desks, suggesting the Fed might be goosing stocks because publicly observable fund flows (via mutual funds, corporate buyback plans and insiders) seem not to be able to account for the 70% gain since the March bottom. Aside from the observation that theories that assign blame to unseen forces are inherently the laziest of all possible explanations, there are many problems with this assertion.

Fund flows don’t capture changes in positioning by hedge funds, mutual funds, pension funds, individual stock buyers, foreign capital and others. The fact that long-short hedge funds outperformed the Standard & Poor’s 500 both into the lows last year and for all of 2009 shows hedge funds went from substantially hedged/short in the deleveraging phase to very long.

More broadly, why would the Fed have to buy stocks, with all it has openly done to penalize risk aversion by adding reserves to the banking system, setting short rates at zero and buying credit products and Treasuries? The whole asset spectrum has fed off these initiatives.”
(emphasis added)

Mike is a nice guy, and way too polite to write anything nasty — so I will add what he is implying. Outside of fund flows, Biderman’s track record is mediocre at best.

Further, the rise of hedge funds, dark pools and private trading networks means that there is much less volume information available for fund flow analysis — which is TrimTab’s bread and butter research.

So its no surprise that Biderman missed the turn, and has remained on the wrong side of the market’s 70% rally. He has concocted a half-assed government conspiracy theory, rather than admit the error. That is weak.

The analytical faux pas has provided a few positives: 1) It reveals that the level of skepticism amongst the public is still high; 2) Its a way to measure someone’s investing IQ. If they bought into the nonsense of this theory, then pull your money/delete them from the blogroll/unsubscribe from the newsletter.

Worse than worthless, they will cost you money.

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Previously:
TrimTabs: Its a Recession, and Its Already Over (Wrong) (April 2nd, 2008)
http://www.ritholtz.com/blog/2008/04/trimtabs-its-a-recession-and-its-already-over-wrong/

Trimtabs Continues to Abuse Withholding Data (April 23rd, 2008)
http://www.ritholtz.com/blog/2008/04/trimtabs-continues-to-abuse-withholding-data

Trimtabs: Americans have stopped saving (?!?) (January 2nd, 2009)
http://www.ritholtz.com/blog/2009/01/trimtabs-figures-out-that-americans-have-stopped-saving/

PPT: The President’s Working Group on Financial Markets (January 8th, 2010)
http://www.ritholtz.com/blog/2010/01/ppt-the-president’s-working-group-on-financial-markets/

Source:
Suspicious Minds
MICHAEL SANTOLI
Barron’s JANUARY 18, 2010
http://online.barrons.com/article/SB126359793047030055.html

Great cover — and cover story — this week in the Economist:

“The effect of free money is remarkable. A year ago investors were panicking and there was talk of another Depression. Now the MSCI world index of global share prices is more than 70% higher than its low in March 2009. That’s largely thanks to interest rates of 1% or less in America, Japan, Britain and the euro zone, which have persuaded investors to take their money out of cash and to buy risky assets.

For all the panic last year, asset values never quite reached the lows that marked other bear-market bottoms, and now the rally has made several markets look pricey again. In the American housing market, where the crisis started, homes are priced at around fair value on the basis of rental yields, but they are overvalued by almost 30% in Britain and by 50% in Australia, Hong Kong and Spain.

Stockmarkets are still shy of their record peaks in most countries. The American market is around 25% below the level it reached in 2007. But it is still nearly 50% overvalued on the best long-term measure, which adjusts profits to allow for the economic cycle, and is on a par with two of the four great valuation peaks in the 20th century, in 1901 and 1966.”

Is this a contrarian signal?

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I doubt it. This is a valuation discussion in a business mag; I’m not certain it has the appropriate mass appeal to qualify. I certainly would not suggest that the public is part of a bubble zeitgeist, and this cover represents the climax of that.

Based upon that, it does not seem to be the sort of contrarian magazine cover indicator

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Hat tip Dan B!

Source:
Bubble warning
The Economist print edition, Jan 7th 2010
http://www.economist.com/opinion/displaystory.cfm?story_id=15213157

Funny, despite having flipped bullish earlier this year, I still get all manner of Bear email sent to me. I guess any bullishness from me is perceived as a trading call only (heh heh) .

Anyway, this hit my inbox, via FallStreet — I guess I am a Cub — and I found it amusing:

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courtesy of FallStreet

In a post yesterday, my west coast Paul discusses how the Chicago School of Economics Circling the Theoretical Drain:

“In the current issue of the New Yorker there is an alternatively depressing and fascinating piece (Letter from Chicago) by John Cassidy about how the Chicago School of economics – monetarism, rational expectations, efficient market theory, etc. – is circling the theoretical drain. While some economists are abandoning the faith, many are not, and the result is, as Cassidy says, much like what happened in cosmology with Edwin Hubble discovered the expanding universe: Economists have lost their footing and are engaged in everything from rear-guard actions to active peer denunciations, and pretty much everything in between.”

It reminded me of an amusing but true tale of Economics from College. When I started my undergraduate work, I was a double major in Applied Mathematics & Physics. Both disciplines are based upon building blocks of logic, reason, and discipline. All subsequent course work is to a large degree premised upon what came before.

The math/science majors meant that I was obligated to take humanities and other (non-science) course work. So I signed up for (amongst other courses) Economics 101.

It took all of ten minutes into the first class for me to recoil in horror. I asked the prof: “What do you meant that humans are rational? That is obviously not true. How important is this idea to economics?”

The response was, in hindsight, not a surprise: “It is the fundamental building block for all of economics. If you fight that underlying concept, if you do not provisionally accept that premise, you will not be able to understand what comes later.”

So I made what turned out to be one of my very best academic decisions: I gathered my books and walked out the door, and dropped the class.

I am curious if anyone else had similar experiences, either in grad school or under-gradauate work.

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Why is the Chicago School of Economics such an intellectually bankrupt line of thinking? It represents two major cognitive errors: First, it attempts to be an all-encompassing ideology, one that tries to explain much of economics via its fundamental constructs.

As history has shown us all too many times, most such ideologies eventually collapse under their own weight. Rather than recognize their own shortcomings and failures, these ideologies rationalize away stubborn facts. EMH does not permit consistent out-performance by managers, so it therefore comes up with half-assed reasons why Jim Simons, George Soros, John Paulson, Steve Cohen have not trounced the averages over their career. “Must be dumb luck” they dumbly rationalize.

Second, it was based on a rather silly and thoroughly disproven notion: That Humans are rational. Everything that follows is therefore premised upon a terribly faulty foundation. How on earth could that edifice come tumbling down?

If you are presently an undergraduate, and you are being taught by someone who believes in the Chicago School, run don’t walk to the registrar and switch to a different econ professor. It is the intellectual equivalent of a tenured Astronomy professor still teaching the Earth is flat following Ptolemy.

I have yet to determine which is worse: A bad ideology, or any ideology at all. . .

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Previously:
RIP Chicago School of Economics: 1976-2008 (December 23rd, 2008)
http://www.ritholtz.com/blog/2008/12/chicago-repudiation/

How Economists Got It Wrong (September 6th, 2009)
http://www.ritholtz.com/blog/2009/09/how-economists-got-it-wrong/

Read It Here First: “What Good Are Economists?” (April 25th, 2009)
http://www.ritholtz.com/blog/2009/04/read-it-here-first-what-good-are-economists/

Someone emailed me this great line. I wrote back, saying that’s great, I want to use it, who is the author?

They answered “You were.”

That’s how I became today’s quote of the day:>

Beware of those on the wrong side of the market blaming manipulation, cabals, PPT, and the hand of God.  These folks are essentially rationalizing their bad calls . . .

-Barry Ritholtz

Who said the small investor isn’t optimistic about stocks?

The American Association of Individual Investors (AAII) Bullish Ratio [Bulls / (Bulls + Bears)] hits its highest level since February 2007.

If you take this together with the fact that the Investors Intelligence (II) Bull/Bear Ratio has also hit its 2007 peak (see Bullishness at Record Levels), some might say that bullish sentiment has reached a contrarian extreme.