When people stop trusting a market they stop using that market. Trust is at near 20 year lows. The conundrum is that as volumes decline it becomes ever easier for price insensitive participants to manipulate the market only furthering the distrust. This first three charts depict the deterioration of volumes and capital outflows in the face of a ‘7 year bull’. A hard to explain phenomenon.
Raw Price to Monthly Volume:
And the capital outflows….
Now I heard Rick Santelli yesterday discuss whether the market can continue its run to new all time highs. And with the obvious caveat of completely accepting that the fundamentals no longer have any correlation or relevance whatsoever to the market then yes, Santelli believes the market can reach all new highs. On what, one may reasonably ask? Well “kinetic energy”, he says, otherwise known as ‘Animal Spirits’ on Wall Street.
But it’s not so much kinetic energy that is levitating this market devoid of any supportive fundamentals, it is the fact that volumes are thin enough and technology has progressed enough that it has become entirely viable for existing policy champions (NY Fed/Citadel algos) to halt even drastic downward momentum runs and then for corporate treasury departments to grind the markets higher through record buybacks. What we have left is a market of price insensitive participants i.e. corporate treasury departments and the Fed’s cronies (who incidentally make a fortune enacting the manipulation on behalf of the Fed).
Now I know that the last few remaining true believers, because I’ve talked to several, will suggest this explanation is just fancy talk. But I ask you to look at the above charts and explain to me how else a market runs higher for 7 years in the face of the capital and volume exodus that has taken place? Further explain who is stepping in on a 10% or 15% falling knife each time when the market has record short positions on and thus should profit handsomely from a continued (fundamentally sound) price reset?
We can continue to believe the hype but I expect most, and just about everyone I speak to privately, believes the efficient market is dead today just as sound banking died in 1999. And when guys like Santelli start talking about kinetic energy being the driving force behind all new highs, well you better start looking for a place to hide, it’s about to get ugly. These April cheers are about to bring us some gut-wrenching May tears.
I’ve said it a thousand times, you can bend but cannot break natural laws. And while technology and lack of broad participation in the markets can facilitate a bending of the natural laws at some point the fundamentals will release that grim swan upon the world. And so if you are still buying into the idea that the worst is over and we are now bound for the next 7 year bull, let me give you something to think about as you lay in bed tonight.
Here’s a look at the S&P 500: Jan – April 19, 2016 (top panel) vs Jan to May 19, 2008 (bottom panel).
You can see they are almost identical and you can imagine the pundits had very similar sound bites in April 2008, purporting that all the worst was finally behind us. But there were a few that, despite the big spring 2008 rally, were giving words of caution. Here is a short clip of Marc Faber on CNBC, May 19, 2008:
And how did the S&P 500 perform over the 10 months following that interview and the big spring rally of 2008? It lost 52% of its value.