The Bubble is in Cash, Not Stocks…

By: Brad Thomas at: http://capitalistexploits.at/

We are repeatedly reminded by many so-called "experts" that the stock market is in a bubble, and that when central bank quantitative easing programs end stock markets will "crash."

However, it would appear that the only bubble is people's uncertainty of the future and their desire to hold large sums of cash. These high cash levels equate to a huge pool of marginal buyers, rather than sellers, for stocks and other "real" assets.

With more buyers than sellers the most likely next big move for stocks is up, not down. This will be the case until equity markets are overbought. Thus, until that time we should not concern ourselves with any material downside.

One of my guiding "mantras" is a quote from the famous value investor John B. Templeton:


Bull markets are born in pessimism, grow in skepticism, mature in optimism, and die in euphoria.


If one can simply identify where we are on this continuum then everything else falls in place! Yes, it does seem simple, but the hard part is interpreting the data and sentiment to discover where we are. In order to do this one needs to have been through a few market cycles to know what conditions of optimism and euphoria are all about.

I started trading in the mid 1980s and I have been through everything between now and then. Yes, it has been one hell of a ride. However, courtesy of this "journey" I know what optimism/euphoria is all about (thank the TMT bubble for that) and what all previous market tops had in common.

Contrary to popular belief the common trait wasn’t that they were expensive, rather it was that too many people owned stocks. Markets reach stages where they quite literally run out of buyers and that is when they are prone to significant downside movements.

So let's have a look at a few indicators which will shed light on how the market is positioned – i.e. the "ratio of weak to strong hands". Previous market tops were characterized by high levels of consumer confidence. Granted no one indicator is perfect and free of "noise", however, it does seem that once the Conference Board Consumer Confidence Index reaches the 110 level the market is in danger of serious downside and investors should be very cautious of being over invested in stocks. Note where the index currently sits – right bang in "neutral" territory.
 


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