Being a daytrader, it helps to go into each trading day fresh and unbiased. However, sometimes having the right macro view helps to explain a lot of the things that I see day in and day out. With the market soaring to new highs, stocks like Apple in the $130s and Google in the $540s, and not much casual talk about it among the nonfinancial crowd, I had to sit back and absorb the bigger picture.
While relative valuations to bond yields, interest rates, the US dollar, and rates worldwide are all contributing factors to the current market conditions, I am more interested in thinking about how a lot of these stocks have run up to very high prices and continue to climb. I now present my view on what is happening and how it explains some of the things I've seen in the market.
I believe that the current bull market is caused by two supply shocks. First, there's an oversupply of money going into the markets. A lot of the money comes from incoming investments from overseas, including the opening up of China to invest in the US. But there is also the issue of increasing use of leverage among speculators and investors. There are so many hedge funds, private equity funds, mutual funds, etc. out there right now, and they all need to put their money to use. Every day that their money isn't being put to work, they're losing interest and so the money flows into the market. But with so many of them right now, can they all make money? Well, one solution is to leverage the money so that the same expected return can be generated with a smaller edge.
Second, I think there's a supply crunch in terms of stocks for investing. With the dot-com crash, a lot of companies contracted or disappeared. Consolidation and stock buybacks have continued to limit the actual number of shares and companies for people to invest in. So what we have here is a scenario where there's too much money that needs to go somewhere and not enough shares for them to go into. This is why I think that the market is soaring even though the underlying economic demand isn't keeping the same pace.
So if the above views were true, what would they explain? Well, it would help to explain why I kept hearing on CNBC about how bullish this market was and yet there's not much sign of retail buying coming in. This is not the bull market of the 90s where the dot com age brought about a huge increase in demand for growth stocks to make use of the internet. Rather, this bull market is caused by the supply issues and so the demand from retail investors has not kept the same pace and that is why I haven't heard much talk on the street about how the market continues to go up.
If those two assumptions were true, another thing that could be explained is why the higher priced stocks keep going higher and higher. For example, AAPL is in the 130s, GOOG is in the 540s, RIMM is around 200, FSLR is around 115, along with many others. If in fact our bull market is fueled by a supply of money and not by an increased demand in growth, then it would be both safer and easier for all these funds to put their money into already strong, high priced stocks as they would own less shares. Sure it's probably harder for a $500 stock to double than a $30 stock, but according to the assumptions, demand for growth isn't the top priority.
So where do we go from here? In the short term, I don't see anything pushing these supply imbalances back to equilibrium. There are still plenty of takeovers, and the supply of stocks will only continue to dwindle because of that. So I see the market continuing to pump until one or some combination of the following three things will happen. One, the US economy starts to pick up and retail demand picks back up along with it. This will lead to an even faster bullish run eventually leading to another hard crash somewhere down the road. Two, more shady companies are taken public to fill the supply of stocks and as these IPOs begin to fail, they will take the oversupply of money with them. Three, rates start rising until the money has somewhere else to flow other than the stock market.
Even though I took economics in college, I'm no economist and this is just my guess.
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