People were already worried about equities six months ago. Now, after the S&P 500 Index defied everything from nosebleed valuations to inflation to post one of the best first halves ever, they’re downright paranoid.
Wall Street strategists, never ones to restrain their enthusiasm when it’s warranted, warn that the gains have played out. Short sellers are circling, with wagers against the largest equity exchange-traded fund rising to the highest level this year. Star investors like Michael Burry have warned of the “mother of all crashes” in meme stocks.
And yet, from reversals in speculative names to a hawkish shift in Federal Reserve policy, things that could have put an end to last year’s rally in equities have failed to. Instead, amid steadfast retail buying, about $US6 trillion ($7.9 trillion) has been added to equity values in 2021, with the S&P 500’s 14 per cent rally putting it on course for its second-best January through June period since 1998.
“The inflows of money are still so good,” Mike Wilson, chief US equity strategist at Morgan Stanley, said in an interview on Bloomberg TV and Radio. “The money does not leave the market. It just looks for another place to go.”
While bears are getting bolder, the bulls have history on their side. In the 27 years when gains in equities were this strong through the first six months, three-quarters of the time stocks continued to march higher by December.
The S&P 500 climbed for the fourth week in five as President Joe Biden’s bipartisan $US579 billion ($764 billion) infrastructure deal revived leadership in economically sensitive shares like banks and energy. The Russell 2000 Index of small-caps jumped more than 4 per cent, the most since March, while the tech-heavy Nasdaq 100 advanced for six straight weeks, the longest winning streak in five months.
“You’ve got a market that has kind of run ahead of itself. Now it’s more likely you’re going to get some volatility in the market for the next six months or so until earnings and fundamentals fill in under stock prices which have become quite rich.”
Kevin Caron, portfolio manager for Washington Crossing.
Valuations that started the year at 23 times earnings – near the highest since the dot-com era – have shrunk, thanks to the fastest profit expansion in a decade. Nevertheless, at 21, the current reading is still above the five-year average of 18. Moreover, this quarter likely marks the peak of a profit recovery from the pandemic recession, with forecast growth slowing from 63 per cent now to 4 per cent early next year.
Throw in the threat of tax hikes and Fed tapering, and it’s not hard to see why Wall Street strategists call for caution. Their average year-end target tracked by Bloomberg stood at 4,213, a 1.6 per cent decline from the index’s last close.