Why were the bears wrong on equities (and particularly on US equities) during the first half of 2023?

A lot of reasons if we’re being honest, not least of which was underappreciating a multi-month systematic re-allocation to stocks.

Declining vol drove up positioning for systematic cohorts for months while several top-down strategists on Wall Street seemed reluctant to countenance the notion that those flows can override their treasured fundamentals, which anyway didn’t cooperate with the bear case either.

As the figure above makes clear, systematic “adds” were a boon. That’s Deutsche Bank’s overall systematic positioning metric for equities, but we can get as granular as you like. This mattered and it mattered a lot.

(Much) more recently, the discretionary crowd was effectively forced into the rally. “Our measure of aggregate equity positioning turned modestly overweight for the first time in over 16 months,” Deutsche Bank’s Parag Thatte said, adding that the jump “was largely driven by a sharp rise in discretionary investor positioning, which broke out of its one-year underweight range and went slightly above neutral, joining systematic strategies which got there a month ago.”

The figure on the left below is the consolidated gauge. On the right is the split. If you squint, you can see the near vertical ascent of the dark green line on the far right-hand side, where it converges on the purple line (systematics).

“Discretionary positioning had previously spiked above neutral very briefly in February before falling again on Fed hawkishness and the SVB shock,” Thatte went on. “At current levels it is factoring in a rebound in growth and is in line with an ISM in the low 50s rather than the 47 it just printed.” He cited surging sentiment surveys and rising net call volumes, which recently hit the highest in 18 months.

Fast forward a few days, and BofA’s Michael Hartnett, a self-described “patient bear,” patiently described why “bears like us have been wrong.”

To begin with, the earnings recession didn’t really pan out. Well, it did, but not to any dramatic effect. And it now seems questionable whether the second half economic recession case is going to materialize. The Atlanta Fed’s GDPNow tracker is sitting at 1.8% for Q2, and the Fed marked up their full-year growth estimates materially in the new SEP.

“Nominal GDP remained super-charged by fiscal stimulus/war [and] the labor market is impervious to monetary policy in the post-pandemic world,” Hartnett said, adding that there’s been no real credit crunch either.

Jerome Powell and Janet Yellen “deftly averted” a credit crisis in the aftermath of SVB’s collapse, Hartnett wrote, suggesting the associated emergency liquidity programs effectively meant “there was no QT [and] no liquidity drain [but] quite the opposite.” Usage of the Fed’s newly-created bank backstop touched a new record at $102 billion+ as of Wednesday.

Finally, Hartnett wrote, there’s the A.I. bull. “The unanticipated event in H1 was not SVB but rather A.I.,” he said, before drawing an LTCM parallel. “Indeed, SVB like LTCM back in 1998, caused Fed easing and liquidity [was] routed into the new secular growth theme of A.I. (then internet).”

The implication is clear, but if not: Hartnett still seems to believe there’s a decent chance this won’t end well. The figure above makes the point, and not very subtly either.

Ultimately, he conceded that the “Magnificent 7” propelled the S&P above the 4,200 level he thought was a fade, and into a new bull market. Investors, he said, are “forced to play catch-up as hard landing risks evaporate.”

The “Zeitgeist” bullet point in this week’s “Flow Show” note from Hartnett read, “Me: ‘I’m never wrong.’ Wife: ‘You should explore that. My experience of you is you’re always wrong.'”