Casual observers of the stock market’s dramatic bounce back this year are still rubbing their eyes in disbelief.
MSCI’s all-country benchmark of global stock prices hit its highest level on record on Wednesday. Just 137 trading days after the onset of a devastating pandemic that’s triggered one of the deepest global recessions in modern history – a market round-trip involving a 35% plunge in the month to mid-March and a cumulative 50% rally from there.
Of course, the stock market is not the economy however the reasons for its bounce are well documented. The pandemic is expected to be temporary and huge monetary and fiscal supports will bridge the gap to an expected vaccine.
Longer term, the driver has been a likelihood that central banks will keep borrowing near zero for years to ensure government debt piles that funded massive support programmes remain affordable. That prospect lifts inflation expectations, assets that hedge inflation such as equities, boosts stock valuations versus bonds and cuts discount rates on future earnings.
Add to that the view the pandemic merely catalyses existing mega trends in digital, pharma and biotech – even green economy investments thanks to long-sought loosening of fiscal policy.
So far, so good. But surely everyone is now loaded up with equity and sitting on one of the biggest ever bets on economies completing the recovery?
Not quite, reckon JPMorgan analysts. They estimate non-bank investors with mixed asset portfolios are currently allocating just 41% to equity.
That’s lower than the average of the years since the banking crash 12 years ago and far below the early 2018 high of 47.6% – a level JPMorgan expects will be hit again. And, all things equal, allocations moving back up there would be commensurate with another 32% rise in world stock prices from here, they say.
“Signs of over-extension are confined to individual U.S. stocks and momentum traders such as CTAs (Commodity Trading Advisors that are mostly hedge funds) with respect to their positioning on U.S. equity indices,” the bank said.
But “for the medium to long term, we still find overall low equity positioning.”
NUMBER CRUNCH
To get its final number, the report compared global M2 money supply – a proxy for the cash balances of households, companies, pension and insurance and sovereign wealth funds – with total assets under management worldwide, minus central bank and commercial bank holdings of bonds that are held for policy or regulatory purposes rather than investment.
From that, it assumed $64 trillion was parked in cash, $43 trillion in bonds and $73 trillion in equity – or 41%.
The number crunch also used proxies for market positioning and detailed how short-term players may have some cause for pause given price momentum signals from Wall St. But it showed global stocks far from overbought territory on that score.
And even though an estimated $500 billion of new short positions taken out on individual stocks at the end of February appears to have been covered already, shorts in Exchange Traded Funds tracking broad indexes have not yet subsided to pre-pandemic levels.
“There is a short base in equities to be covered at index level,” said JPMorgan report.
Does all that bear up to reality, or even other guesstimates?
It tallies with Reuters own monthly asset allocation polls. For July, they showed fund managers recommending more bonds than equities for balanced portfolios for the first time and, at 43.8%, the lowest average equity recommendations in four years.
Bank of America’s August funds survey also showed cautious global equity positioning despite crowded trades in tech. “We do not think positioning is dangerously bullish,” it said.
And after reviewing mutual fund flows for August, Barclays this week also concluded that equity exposure was still “light”.
“Ample dry powder to buy equities remains,” it said, adding cash and bond holdings are still very high and another drop in volatility may see systematic funds intensify equity purchases.
“Overall positioning is not stretched, which continues to provide positive asymmetry to equities, in our view,” it said.
Of course, historically low positioning doesn’t mean investors will add any more. It may simply reflect inevitable uncertainty about the COVID-19 shock over the next 6-12 months.
Further buying likely needs more signs of the pandemic ending in that timeframe, consumption returning to a semblance of pre-COVID norms and central banks matching the speculation that rates will be down here for years.
But it does show that any assumption of investor indigestion from equity at this point may be wide of the mark.
Reported by Mike Dolan
Sourced Reuters
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