Whenever we are nearly fully invested (like we are now), my cognitive biases become acutely aware of all the things that could go wrong. (When we are short or in cash, the focus is what could go right)
It is the opposite of confirmation bias I write about so often.
What is it that makes me concerned about our investment posture over the short term — say, the next 30-90 days?
• Hot money seems to be rotating from speculation to speculation, rather than inflows accumulating longer term holdings;
• Traditional measures of Stocks (P/E, return on capital) suggest stocks are no longer cheap; Longer term measures of valuation — Q ratio, Shiller’s 10 year P/E — show stocks are actually pricey;
• China is on the verge of rolling over, falling nearly 8% in a single session; That wiped out 3 months of gains;
• Defensive sectors — especially health care, but also staples, telecom and utilities — have found a bid. Often telegraphing a reduction of buying by fund managers;
• Way too much cap weight is tied up in a handful of stocks. Apple (AAPL) is responsible for far too much of the Nasdaq gains than is healthy.
• The rally that began March 2009 — now well over 2 years old — may have gotten ahead of itself;
• The rampant speculation in Silver and its collapse is a reminder that money that piles into a sector very quickly heads out the door ever faster;
• Assumptions about earnings seem to project double digit gains forever;
• The end of QE2 removes a significant bid under equities and bonds. It also will allow the dollar to rally, potentially punishing commodity traders;
• While earnings have been good, future guidance from companies is starting to moderate. This does not bode well for earnings supporting SPX 1400-1500 future levels;
• Speaking very generally, the low volume Markets just feel tired here.
What is keeping us long?
None of the usual technical or internal signs of a major correction are present (yet). Supply continues to be constrained, selling pressure is light to moderate, breadth and liquidity are strong.
Giving the markets the benefit of the doubt has been the winning play so far. We expect this to continue to work until it doesn’t.
Hopefully, I will be able to warn you in advance before markets get too far gone.
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