Market Sentiment

"Only if the economy is powered by the marginal borrower who will no longer borrow after a 0.25% hike, does it make sense to believe a hike will derail the economy.  Comparisons to 1937, where a hike pushed the US into recession, are incomparable and groundless.  On the other hand, maybe the FOMC is worried that the ‘no free lunch’ concept makes them suspicious of the possibility of a meaningfully deleterious market reaction which could have a negative impact on the broader economy.  However, under this logic, delaying a hike would only exacerbate such a response."

More than merely a subjective, psychological state, the complacency of market participants can be effectively quantified, which is precisely what Deutsche Bank's David Bianco has done by looking at the ratio of the market's P/E to implied vol or VIX. As the chart below shows, on a daily basis the PE/VIX ratio just hit 1.49x - it has never been higher, and again based on DB's estimation, market sentiment has now crossed from the complacency zone into outright Mania. The last time this ratio was at the current level: late 2007/early 2008, just before the Fed had to launch a multi-trillion bailout to save capitalism as we know it.

The politicians like the bankers and the central bankers, are happy to kick the can down the road and let their successors and future generations pick up the tab and pay for the economic mess that they refuse to address.

Investors are clearly in a bit of a no-man’s land of market narrative, with the dollar weakening and U.S. corporate earnings slipping.  Market participants, like all pack animals, appreciate clear direction and leadership – and we don’t have much of either right now. When considering how they will react, we can compare the two competing frameworks for understanding market behavior: the "Random Walk hypothesis" and the "House money effect." The first states that markets move in random patterns, with prior activity having no bearing on future price action. The latter shows that individuals do actually consider prior gains and losses when making economic decisions. Let’s just hope investors hold to their belief that it’s the house’s money at work here, and that they don’t walk randomly out of the market.

The new term follows in the footsteps of the classic (but now tired) “Grexit” and its underrated predecessor “Graccident,” and refers to two of the four outcomes Citi imagines are possible in the unfolding Greek drama. The bad news: both scenarios involve capital controls, deposit flight, and defaults.

"Listening to Goldman for advice on how to run the economy is like listening to Dracula on how to run a blood bank,” a prominent British economist says, in response to the bank's assessment of the dangers inherent in a "leftward shift" in the UK government. "Their real aim is to avoid 50p tax rates for high earners, the Mansion Tax and other small impositions which shift some of the burden of austerity onto the shoulders of the rich, the likes of Goldman Sachs bankers and their clients," another economist notes.

While the reality is that nobody has a clue what China's actual gold holdings are, the good news is that the answer is coming. As noted above, Chinese Premier Li Keqiang has asked the head of the International Monetary Fund to include China's yuan currency in its special drawing rights (SDR) basket.  If indeed China is serious about CNY inclusion in the SDR, it will finally have to reveal its cards, which would mean it finally will provide an update, with a 6 year delay, of just what its latest gold holdings are. As such, don't be surprised to wake up one morning to headlines blasting that Chinese gold holdings have gone up by 2x, 3x, 5x or (more x) since 2009, a long-overdue update which will catalyze the next major leg higher in the precious metal. 

The panic buying by China’s newly-minted, day trader hordes took a breather on Tuesday which we think presents as good an opportunity as any to assess what factors might intervene to derail the self-feeding margin madness that has Shanghai and Hong Kong partying like it’s 1999 on the Nasdaq.

As everyone settles down in anticipation of another session of parabolic Hong Kong euphoria driven by desperate housewife traders, or a manic plunge straight down, none other than the CEO of the Hong Kong Exchange, Charles Li, found some time to pen a blog post to give "a little advice to investors", providing vivid aphorisms "Investment is like swimming: if you do not enter the water, you will never learn to swim" and to caution speculators that the opportunity is "not to quickly make a  fortune, but ... to provide long-term wealth preservation and appreciation" and that there is also such a thing as risk as everyone scrambles to chase the latest bubble breakout. His blog post's punchline: "Do not worry!  Do not panic!" We doubt anyone will panic, at least not until the selling begins.

When Will Bad News Cease to be Good News for Stocks? It is quite amazing to watch this. Even as one economic datum after another indicates that a major slowdown is underway that could well turn into a recession (keep in mind that this is not a certainty – at similar junctures in recent years, aggregate economic data recovered just in the nick of time), the US stock market continues to take everything in stride. The longevity, intensity and persistence of a bubble is per se not proof that it will inevitably continue – it is only an indication of the likely amount of pain the market will eventually dispense.

"Never, since 1900, have investors been this persistently bullish," warns Wells Fargo's Jim Paulsen. While the 13 previous cautionary signals since 1900 suggesting investor sentiment was too high have not been perfect, they have proved to be fairly good warning signs; and along with "massive overvaluation", and a dramatic "decoupling of markets from economic productivity" this extreme sentiment reading completes the trifecta of flashing red warning signs for US equity markets.

"One of the potential options Syriza might eventually consider could be a popular referendum on Eurozone membership – a step that would obviously involve great risks and uncertainties," UBS says, as Athens stares down a tough month ahead and an even tougher June and July.

BNP is out with a note calling China’s equity bubble “a microcosm for the overall economy: unsustainable growth in leverage masking ever-deteriorating fundamentals and increasing future downside risks. Margin purchases are now accounting for almost 20% of equities daily turnover which itself has soared to wholly unprecedented levels in another sign of self-feeding speculative frenzy. What happens next is clearly an ‘unknown-unknown’."

The hunt for yield is driving investors into riskier debt at just the wrong time. With liquidity in the corporate bond market drying up thanks to new regulations, the rush to the exit is likely to be "very unpleasant," one analyst says.