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Wednesday September 2, 11:50 AM
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ANALYSIS - Glowing data no longer enough for U.S. stock bulls
By David A. Gaffen
NEW YORK (Reuters) - The suddenly jittery equity market is no longer titillated by upbeat economic figures.
After building a 50 percent rally on glowing economic reports and strong earnings, stocks have been teetering in recent days, drifting lower despite significant evidence of a rebound in demand.
Tuesday's swoon has been dramatic, coming after a report showing U.S. manufacturing in August returned to expansion for the first time in more than a year-and-a-half.
But it's not enough for the equity market, which some hedge fund managers believe has become overly bullish.
"I am shorting this market because we are facing a period of disappointing economic and corporate growth," said Doug Kass, founder of Seabreeze Partners Management.
More than 80 percent of stocks traded on the New York Stock Exchange are above their 50-day moving average, according to Bespoke Investment Group, and the Investors Intelligence survey, a weekly look at sentiment among newsletter writers, shows the widest gap between bulls and bears since the beginning of 2008.
"People in the market -- traders, advisers and individual investors -- went from extremely bearish to quite optimistic," said Robert Prechter, founder and president of research company Elliot Wave International in Gainesville, Georgia.
That's not surprising after a 50 percent move upward in the S&P 500 index from 12-year lows in early March. There is a growing belief that the market has outpaced economic realities, and investors are getting skittish.
The Chicago Board Options Exchange Volatility Index, the market's favorite indicator of anxiety, rose to a two-week high Tuesday as more investors guard against declines in stocks.
The VIX hit an intraday high of 28.63 Tuesday, reflecting uneasiness about the banking industry, which was hardest hit in the session, and on expectations that stocks are going to correct in the coming months.
Walter Gerasimowicz, chief executive of hedge fund Meditron Asset Management in New York, does not expect a dramatic correction, but advised buying put options or selling call options as a means of protection in anticipation of a possible 4 to 6 percent correction. "I wouldn't be overly pessimistic, but I would be prepared," he said.
WE'VE SEEN THIS BEFORE
Stocks have been here before, though, pulling back in late June in what investors anticipated would be a hefty correction, but one that stopped after a 9 percent decline. A repeat of this pattern is not inconceivable despite expectations for a more traditional autumn slump.
"I think the market is way ahead of the economy, but until credit stops flowing it's not going to go down," said Mike Lewitt, president of investment management firm Harch Capital Management LLC in Boca Raton, Florida. "The key is, as long as companies can access credit from the bond market, things are going to remain relatively stable."
While corporate rates remain elevated from their historic lows, borrowing costs have cheapened as long-term rates have continued to decline. Interest rates remain low and inflation is not a threat. Sales of new homes have picked up, if only marginally, and the glut of inventory is starting to decline. Manufacturing is starting to grow again.
But the lingering concern among investors is that a feared "double-dip" recession will materialize once the impact of temporary stimuli wanes, such as the government's "Cash for Clunkers" program, tax credits for first-time home buyers or building business inventories.
The pessimistic view is one that sees increasing foreclosures and lack of consumer demand sapping growth and prolonging the recession or sending the economy back into one after a brief period of growth.
A pullback would hit investors hard as they have steadily moved money out of money-market funds and into riskier assets. According to Mizuho Securities, a record $327 billion has moved out of these funds since the beginning of the March rally, including $55 billion in the last four weeks.
"Most investors should now consider reducing overall invested positions as the reward versus risk is less than exceptional," said Kass.
(Additional reporting by Doris Frankel, John Parry and Jennifer Ablan)
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