Investors Beware of 'False Profits' In this Market
"Beware of false prophets, who come to you in sheep's clothing but inwardly are ravenous wolves."
-- Matthew 7:15
I try to exclude personal experiences from my diary and only include observations related to the markets. But I have to start the morning by saying that the past few days have been moving ones of monumental importance on multiple fronts for myself and my family. Let's just leave it at that.
As for Wall Street this morning, aggressive liquidity continues to buoy stocks. The money is coming from a combination of the world's central banks and historically large share buybacks, coupled with quant strategies that ignore fundamentals at the expense of share-price action and risk-based allocation. Unfortunately, these influences make the charts that technical analysts use less reliable at best -- and untrustworthy at worst.
To me, the market could be a "trap door" that's getting ready to open. Old correlations between stocks and oil prices or currencies are shifting and losing their impact in what many of the bulls see as a new market paradigm.
But profit potholes are beginning to emerge. For every DuPont (DD) that raises forward guidance, there are numerous downgrades or instances where earnings quality has weakened. For example, Gilead Sciences (GILD) and Celgene (CELG) -- which had been two popular biotech "value plays" -- were the latest to disappoint overnight, whileStarwood Hotels (HOT) missed analysts' earnings estimates rather considerably this morning.
That's part of the reason why DD my favorite large-cap long, but why I also see many other value plays that could turn into "value traps." I expect that we'll see many more earnings "accidents" in the days ahead as The Many Peaks I See multiply.
Meanwhile, the political and geopolitical backdrop that investors are for the most part ignoring remain decidedly market unfriendly. Partisanship, fiscal inertia and the callous acceptance of growing terrorist attacks all have the potential to add ever more uncertainty to stocks.
At the same time, the responsibility for world economic growth now sits precariously on central bankers' shoulders. However, their efforts have produced low and in many cases negative interest rates that create elevated price-to-earnings multiples and a dangerous reach for yield in certain market sectors.
All of the above contribute to artificial pricing in both stock and bond markets -- a phenomenon that's likely to have a relatively short half-life. After all, stocks remain in rarefied air, with the S&P 500's valuation at about 25x GAAP earnings.
Still, many investors seem to want to believe in the stock prices that they see today -- just as they want to believe in Wall Street's 21st century P.T. Barnum, Elon Musk ofTesla (TSLA) and Solar City (SCTY) .
But not me. Given all of the potentially adverse economic and market outcomes that we face, the market's risk-vs.-reward quotient seems unattractive to me.
In fact, the only thing that's keeping me from expanding my short exposure is the fact that the market's strength seems to be impervious to risk for now. Despite my personal conviction that stocks look shaky, I've decided to be reaction-oriented rather than anticipatory in a market where too many have abandoned natural price discovery.
But as the old saying goes: "This too shall pass." A return to natural price discovery could come abruptly -- occurring at almost any time.