Bulls Continue To Push Stocks Higher As Risk Rises

What better way to celebrate a new President than to push stocks to new all-time highs? On Wednesday, the market surged as Joe Biden got sworn in as the 46th President of the United States. Interestingly, it was a rotation from the reflation trade back into the Old Gaurd of the FANG stocks that led the way.

In fact, despite hopes that the reflation trade would be the thing, it has been just the opposite. The chart below is the differential in performance over the last week between market-cap and equal-weighted markets. (FANG dominates market cap whereas equal-weight has a much larger weighting in industrials)

Notably, that rotation is a function of money managers repositioning portfolios to reduce risk. The risk gets reduced by moving from significantly extended and deviated areas of the market back to less extended or oversold segments. As noted last week, there is nothing screaming risk more at the moment than the small-cap sector.

Markets Queuing Up For A Correction

Currently, managers can’t afford to be out of the market and potentially suffer a performance drag. So, the rotation in the market reduces risk while still maintaining exposure to equities. However, as discussed last week, there is ample evidence that “everyone is currently in the pool.”  Such leaves the market vulnerable to three risks:

  1. More stimulus and direct checks into the economy lead to an inflationary spike that causes the Fed to discuss hiking rates and tapering QE.
  2. The current rise in interest rates continues over higher inflation concerns until it impacts a debt-laden economy causing the Fed to implement “yield curve control.” 
  3. The dollar, which has an enormous net-short position against it, reverses moves higher, pulling in foreign reserves, causing a short-squeeze on the dollar. 

The reality is that both a rise in the dollar, with higher yields, is likely to start attracting reserves from countries faced with economic weakness and negative-yielding debt. Such would quickly reverse the tailwinds that have supported the equity rally since March.

In the following video, we discuss why the markets are setting up for a correction over the next month of 3-5%.

Important Note: A correction can take on one of two forms. The market either declines in price to alleviate the overbought condition, or it can consolidate sideways. 

The Fed Broke It

In his latest letter to investors, The Financial Times reported that Seth Klarman of Baupost Capital blamed the world’s central banks for flooding the financial system with liquidity masking the US economy’s real health. To wit:

1 2 3 4
View single page >> |

Disclosure:  We publish a daily 3-minute video click here to subscribe

Disclaimer: Click  more

How did you like this article? Let us know so we can better customize your reading experience.


Leave a comment to automatically be entered into our contest to win a free Echo Show.