Anyone who has been around the investing game for any length of time is likely familiar with the old saw, “Hope is not a strategy.” This famous Wall Streetism reminds investors and traders alike that holding onto a losing position in the hope that it will come back to your purchase price is not a sound strategy. Nor is hoping that the stock in question will suddenly come through with blowout earnings, surprise with a new product, or be bought out by a competitor. No, the stock market game is about dealing with what is happening, not what you hope to see in the future.
However, it appears to be quite clear that hope is indeed the singular driving factor in the stock market these days. For example, there is the hope that Bernanke & Co. will ride in on their white horses to save the economy with a little something they like to call QE II. There is hope that the elections will bring an end to the anti-business environment and perhaps remove some of the uncertainty surrounding taxes, regulations, etc. There is hope that the economy will continue to improve and that the Chinese will be able to walk the tightrope between avoiding bubbles and maintaining a strong economy. There is hope that the G20 gathering will put an end to the “competitive currency devaluations” (aka currency wars). There is hope that the American consumer will continue to avoid saving and return to spending everything they make (and then some). And there is a fair amount of hope that the PIGI’S acronym will quickly fade from people’s memories.
It is my humble opinion that hope relating to any or all of the above has been responsible for pushing up the stock market indices since September 1st. At last check, the S&P sports a gain of nearly 13% over the last 38 trading days while the venerable DJIA is up 11.2% and the NASDAQ has climbed a nifty 17.3%. Not bad for a couple months work, eh?.
Lots of people are comparing the current joyride to the upside to the February-April affair, during which S&P gained roughly 15% over a period of two and one-half months. Perhaps the comparisons are being made because of the similarities of the rallies in terms of breadth and duration. Perhaps the comparisons are being made because the Dow is now back to within a stone’s throw of the highs for this bull market cycle that were set on April 26th. And perhaps the comparisons have arisen from the idea that during the Feb-April jaunt, it was also hope that things would be better going forward that drove the action.
However, I’d like to take exception with that last idea as the current rally’s brand of hope is a horse of a completely different color. You see, during the market’s spring fling, the economic data was coming in consistently better than expectations. If you will recall, this was before the public knew that the recession had ended (although we had been suggesting such since late summer). Thus, the hope at that time had to do with the idea that the economic recovery might actually be better than expected. And since no one in their right mind was overly optimistic about the outlook at that point in time, suddenly there was a lot of room for discounting the upside.
Of course, the fun ended abruptly when the world started to fret over the idea that Greece’s financial woes were going to drag the world back into crisis. And then once that concept took hold, traders immediately tossed aside the rose colored glasses and started employing the “R” word with regularity. But, once it became clear that the “soft patch” had subsided, traders began to once again look ahead to blue skies.
Which bring us back to hope. While I am a trend-follower at heart, I DO need to understand and accept the reasoning behind the move in order to be wholeheartedly onboard the train. And as such, I’m growing more than a little concerned that the hope trade may be setting us up for disappointment at some point in the near future.
Unlike the Feb-April rally, which was based on data, this rally is based on hope and hope alone. (Well, okay, there have been some decent earnings numbers showing up now and again and the economic data hasn’t exactly been a disaster.) In short, the hope is that David Tepper is right – that stocks win regardless of whether or not the economy grows from here.
Now toss in the idea that the Fed’s latest plan involves pushing rates that it normally doesn’t control lower and you’ve got a recipe for a declining dollar. And since traders have their fancy new computers set to buy “risk assets” (commodities, stocks, emerging markets) whenever the dollar falls, well, it’s been a good time to own equities.
However, at some point, this “trade” is going to run its course. At some point, the dollar’s decline will end. At some point, reality will set in that the current economic growth rate (said to be in the 2% - 2.5% range for 2011) can only generate so much in terms of earnings power. And unless the Fed can magically engineer a recovery in jobs sooner rather than later, at some point, disappointment might rear its ugly head.
Sorry to be a Debbie Downer on this first day of ski season (yes fans, Loveland ski area in Colorado once again takes home the prize as the first resort to crank up its lifts), but I’m of the mind that, at some point, traders will be reminded of the fact that hope is not a strong reason to keep buying stocks. But until then, I plan to continue to enjoy the view from these rose-colored glasses and ride the tide.
S&P 500 Last 5 Years
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