Broadsword Calling Danny Boy
Clint Eastwood in the Movie Where Eagles Dare, as Richard Burton tries to expose British spies with a cocktail of misinformation to the German officers in the underground bunker of a castle, turns to Richard Burton and says “Right now Major I am about as confused as I ever hope to be”. That’s possibly how most stock investors feel now. At the start of the year, the playbook seemed obvious. The Fed would keep tightening, interest rates would keep rising, and there would be an economic recession stocks would fall.
The December Merrill Lynch fund manager survey reported that professional portfolio managers held almost 6% of their portfolio in cash. Expectations for growth were very pessimistic, but to a level that suggested they could not get much worse. They expected inflation was peaking and that would lead to a fall in short-term rates. Stagflation was the consensus view for the economy over the next 12 months. No growth and rising prices, an unhealthy cocktail for stocks. Fund managers were underweight developed stocks and overweight EM as they expected a bounce back in the Chinese economy. They were overweight cash, consumer staples, bonds, and energy. Underweight tech, equities in general, and in particular consumer discretionary. The relative positioning of stocks v bonds was the lowest since 2009. I think you now get the picture, as almost 70% of respondents expected weaker economic growth. Almost all strategists were pushing defensive positioning for portfolios.
As we know now most of that did not happen, portfolio managers have seen stock indexes rise and as we pointed out earlier this week, the outperformers have been this year tech, consumer discretionary, and industrials. The big underperformers are consumer staples and energy. Indexes, in particular US and Europe. The Shanghai Composite is flat on the year as the much-anticipated boost to the Chines economy has so far failed to materialize. The Vix fear gauge is now absolutely in what Mr. Buffet would call greed territory. Portfolio managers with some exceptions have not had a great 1st half.
What to think for the second half? On Tuesday, according to the latest reports house sales in the US are booming, and durable goods orders remain resilient. The apparent underlying strength of the US economy continues. According to a Bloomberg report, Fund managers are now very overweight tech, not wishing to miss out on the AI boom. They remain broadly underweight stocks and are now underweight in China. The article goes on and that fund managers remain broadly underweight on stocks as sentiment — measured by cash levels, economic growth expectations, and asset allocation — remains “stubbornly low,” BofA strategist Michael Hartnett wrote in a note. Investors cut equity allocation to a five-month low.
At present, it does not feel like fund managers have thrown in the towel yet, which would suggest the pain trade remains up.