If you’re looking for an excuse to get tactically bearish, you might point to quarterly rebalancing flows.
Equities have outperformed fixed income during the third quarter by a wide margin (figure below), which points to a big adjustment for fixed weight investors.
JPMorgan’s Nikolaos Panigirtzoglou pegs the outflow for equities at some $200 billion.
Of course, you needn’t lean solely on this if what you’re after is confirmation bias for any cautious views you may be harboring around equities.
After all, US stocks are the most expensive in two decades heading into an election which promises unprecedented drama and a contested outcome. In addition to the prospect of more social unrest following the US vote, there’s Brexit to worry about, and Sino-US relations aren’t seen improving materially no matter who occupies the Oval Office.
And let’s not forget about decelerating economic activity in the absence of additional fiscal stimulus. August’s retail sales figures didn’t do much to shore up confidence in that regard, and while the labor market is healing, structural damage is piling up.
Getting back on message, rebalancing flows that hit in an environment of low liquidity can have a big impact both on the downside (when equities have outperformed over the period and exposure needs to be pared in favor of fixed income) and on the upside (when stocks have underperformed and rebalancing flows thus become supportive of equities).
We’ve seen some poignant examples of this over the past couple of years, with one particularly notable episode being the buying that took place at the end of 2018, when an egregious December plunge for US stocks was ameliorated (although by no means “saved”) by rebalancing flows into a totally illiquid market.
For his part, Panigirtzoglou warns that this month’s negative impulse “becomes even more problematic given [a] sharp decline in equity market depth”. You’re reminded that liquidity never recovered following “Volpocalypse” in February 2018.
And yet, JPMorgan remains constructive on stocks over the medium- to long-term. On Tuesday, the bank’s Marko Kolanovic told Bloomberg TV that this month’s tech-centric rout is “probably done”.
“Positioning is low. We got a little bit of a purge, so we think [the] market can actually move higher from here”, he said.