‘They’

“They know about the stretched valuations and everything that must go right to keep stocks aloft,” read the first line of a piece featured on Bloomberg Saturday.

“They” is supposed to refer to investors, large and small and everywhere in-between.

While I certainly don’t purport to speak for each and every investor on the planet, I know that generally speaking, “investors,” as a group, cannot usually be described as keen observers whose decision calculus everywhere and always involves assessing nosebleed multiples and accepting the premise that when valuations are stretched, the margin for error is razor-thin. In other words: Bloomberg is probably giving “investors” far too much credit.

In reality, most investors couldn’t tell you how much they’re currently paying for a dollar of earnings, let alone put that figure in any kind of historical context.

Sure, “they” read headlines and are aware that the post-pandemic months were good to equities, just like they were good to many other assets (figure below). But let’s face it: The odds that most “investors,” broadly construed, could sketch a rough approximation of the S&P’s multiple going back two decades (i.e., the figure above) on a cocktail napkin with any degree of accuracy are about the same as the odds of a random American being able to reliably use “their,” “there,” and “they’re” correctly. In other words: The odds are slim.

So, no, with apologies to Bloomberg, “they” (investors) don’t “know about the stretched valuations and everything that must go right to keep stocks aloft.”

In fact, “they” probably don’t even know what “aloft” means. (Just use “up” if you want to communicate with the general investing public.)

What “they” do know, however, is that the stock market is, in many respects, even more of a casino now than it was during the dot-com bubble. If “they” includes the Robinhood set and the Reddit crowd, “they” are also aware of how to weaponize gamma and effectively enlist dealers in an effort to force up the price of popular tech shares and other retail favorites, for example.

In the immediate aftermath of the pandemic shock, “they” demonstrated just how much they (don’t) care about fundamentals when they dove into the equity of bankrupt companies, something that’s generally not advisable for a slew of obvious reasons and an equally long list of reasons that aren’t so obvious. In at least one case, “they” were on the verge of indirectly (and accidentally) helping to pay off investors further up in the capital structure by buying into a secondary from a bankrupt entity.

In any case, the same Bloomberg article cited JPMorgan’s Nikolaos Panigirtzoglou and his model for equity exposure. This is an oft-cited measure for Panigirtzoglou, who characterizes it as especially holistic. Here, in brief, is what it entails (and note that this is actually pretty straightforward):

As a quick reminder, in this framework we compare global M2 with the AUM of equities and bonds held by non-bank investors globally. Global M2 reflects the cash balance of non-bank investors, such as households, corporations, pension funds, insurance companies, endowments and SWFs. This distinction is important because a large portion of fixed-income securities are held by central banks, including FX reserve managers and commercial banks.

That measure is near 44% for equity exposure now (figure below).

While that’s up (some more) from where it was the last time I checked it, it’s still nowhere near levels witnessed during the post-tax cut melt-up that presaged the February 2018 correction, and it’s miles away from peaks seen during the dot-com days or just prior to the financial crisis.

However, I suppose what I would gently note is that when it comes to that particular metric, the narrative is shifting as we seek to justify equity exposure on the way up. Previously, we said “the measure is below its post-Lehman average” (and I’m not quoting anyone in particular there). Now, it’s sitting near the pre-Lehman average. Soon, we’re going to run out of ways to suggest it isn’t elevated.

Of course, the idea that “they” (investors) are apprised of this “holistic” model of global equity exposure is wholly laughable.

Meanwhile, everyone has an anecdote. The same Bloomberg piece cited at the outset mentions CFRA’s Sam Stovall, who claimed his two nieces called him recently to ask if they should buy stocks.

While that underscores the general thrust of my affectionately sarcastic description of what “they” do and don’t “know,” I’m wary of anecdotes. I’m sure Stovall has some nieces. And they probably did call him. But belabored efforts to lay claim to a modern version of the shoeshine boy stock tip story are just that — belabored. You can’t call the top based on what somebody tells you about their nieces’ newfound interest in equities.

The same article quoted Mellon Investment’s head of equities, who told Bloomberg that “it’s irrefutable how significant the Fed’s role is.”

That’s the crux of the issue. While it’s questionable what investors do and don’t know, the Fed, despite their (mostly correct) contention that bubbles  are hard to spot as they inflate, are nevertheless acutely aware of how elevated multiples are and also that, of the two ways elevated multiples can “resolve,” only of them is desirable.

In other words, if “they” means the Fed instead of investors, it is most assuredly the case that “they know about the stretched valuations and everything that must go right to keep stocks aloft.”