Lucas Krupinski's  Instablog

Lucas Krupinski
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I have been working in the fields of Estates & Trusts, Tax Planning and Charitable Planning for several years now. It was from this turn in my career that I developed an interest... no... an obsession... in investing. Reviewing client account statements and seeing the end results of the buy and... More
  • The decoupling of stocks vs. fixed income is really the decoupling of retail vs. professional investors. 0 comments
    Aug 4, 2010 11:54 AM

    Seems a lot of ink (or rather, bytes) has been devoted to the subject, but i still feel like I'd like to chime in on what seems to be a very easy to explain development. For many years, investors were used to rational markets, where, when stocks went up, bonds went down, and vice versa.

    It doesn't seem to be the case any longer. Instead, there seem to be two distinct markets; the equities market, which is completely dominated by professional investors at this point, and the fixed income market, which is dominated in it's own right by retail investors.

    Looking at earnings, yields, etc, I'd say that the market as it stands now (within a +/- 500 point range) is neither overvalued or undervalued. The movements outside that range (i think) were caused by the movements of retail (mutual fund) investors, who, after seeing the 2001-2003 collapse, climbed back into the market in the waning days of the last boom. Once they were in, the markets reversed, and panic selling (again, mostly driven by retail investors) drove the markets too far down on the downside. It's been lamented since that the rally that ensued since is the largest rally to have occured with no retail participation.

    How do we know that it's the retail investors to "blame" for the carnage? It's pretty simple, I think. The "big boys" (institutional types), be they university endowments (think, Yale & Harvard), pension/retirement systems (CalPERS), and others (Berkshire Hathaway, for instance), they all stayed invested throughout the entire time. They simply are too big to get in and out of the market. So its not them that are causing big moves. Instead, it's the trample of millions of feet scurrying away from their equity funds and into bond funds.

    Which explains why yields are so stubornly low. We complain about the defecit and dependance on China, but as long as retail investors remain frightened of equities, Uncle Sam has access to incredibly cheap funds for borrowing. Likewise, retail investors feel daring are stepping further out on the risk spectrum and bidding down the prices of corporate bonds in the same manner. The whole time, they're oblivious to the risk that they've created, in that once equities appear "attractive enough", it'll be a mad rush to the door, just as what happened with in 2008 and 2009.

    The sad thing is that since Dow 7000, 8000, 9000 and 10,000 weren't attractive to retail investors, one can assume that they're waiting for higher prices before they buy in. So maybe they rethink their bond positions when the Dow is at 11,000. Maybe it's 12,000.  Either way, they're assuring themselves worse and worse future by waiting for higher prices to prevail.

    The money flows are all very easy to track via mutual fund inflows and outflows. And that explains the "volumeless rally" that commentators lament about. I mean, its really obvious with all the retail money crowding into bonds, that stock volumes will have plummeted.

    This isn't a forecast. I don't know where the markets heading. But right now, it seems to be fairly valued based on corporate earnings. If those earnings decline, so will the market. If those earnings rise, so will the market. But right now, i think the riskiest place to be is in fixed incomes, which are ripe for a stampede out if retailers get their courage again.

    Disclosure: No positions mentioned.

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