Your Economy (No Politics)

[Bullwinkle]

Public's Rush to Buy Stocks Not a Good Sign
Comstock Partners, Inc.
Thursday, February 23, 2006


According to an article in today’s Wall Street Journal, individual investors have been rushing back into the stock market at a stronger pace than seen in the last few years. Judging by past cycles, this is yet another sign (among many) that we are in the very late stages of the counter-trend bull market within the secular bear market that peaked in early 2000.

The article states that trades by individuals have jumped significantly in the last few months and by about 30% to 40% from December to January. Purchases of equity mutual funds have increased sharply as well according to a number of leading firms. This is confirmed by the monthly Trimtabs estimates that indicate January net inflows of about $25 billion, the most in any month for the last two years. The article adds that retail investors have been attracted to stocks by recently lackluster returns from alternative investments such as real estate and bonds. Although yields on money market funds have risen to the 4% area from a long period at less than 1%, assets in money market mutual funds were up only $4.1 billion in last month, compared to average January inflows of $33.5 billion over the last 10 years.

According to Sanford C. Bernstein & Co., retail trading volume bottomed in February 2003 (near the market lows) and has climbed steadily since. Although active traders were earlier, Bernstein stated that “now we’re beginning to see the core investors come back—the families, the 40-year olds with kids and retirees.” A number of firms also reported a big rise in new account openings.

In our view the late surge of individual investors into stocks is another sign of an impending top. Financial history is replete with examples of investors rushing into buy whatever has performed most recently. It happened in the U.S. in 1929, 1972 and 1999, and in Japan in 1989. We also remember people lining up to buy gold when it hit $800 an ounce.

Even so, the surge in retail investing is not the only reason to be extremely cautious at this time. The yield curve is inverted and the Fed will probably continue to raise rates. While first quarter GDP can grow at annualized rate of around 5%, the figure is distorted by the after-effects of hurricane Katrina and the warmest January in more than 100 years. The housing slowdown is real and highly likely to get worse at a time when real wages are weakening on a year-to-year basis. These are solid indications that a sharp slowdown in consumer spending is probable in the period ahead. At the same time the market is excessively valued to anyone not looking at pro-forma earnings estimates 12-months out. We thought that particular game was over after the last market debacle, but, unfortunately it is still with us today. We note, too, that despite the recent surge in individual stock purchases, the market has still been struggling upward, with the S&P 500 gaining a little over 1% in the last three months. It’s therefore obvious that somebody out there is willing to sell the public an awful lot of stock.

http://www.comstockfunds.com/index.cfm/act/newsletter.cfm/CFID/3100225/CFTOKEN/15616716/category/Mar...