It's Time For Caution

I wrote that my inner trader was turning more cautious after getting long to await the post-government shutdown/debt ceiling relief rally (see The Age of Bullshit Investments Is Back! Junky More speculative investment ideas are gaining traction once again:

Look around today's markets and you'll see a surfeit of senseless investment opportunities wearing the cloak of legitimacy.

You'll see, on page one of the New York Times, a trying to convince you that betting on the paintings of unknown artists is a sound portfolio move.

I could go on, but you get the idea. The dumb money is now chasing the risk trade.

Bearish catalysts
These conditions suggest that markets are vulnerable to a pullback, but without a bearish catalyst, markets can continue to grind higher.

The bearish catalyst may be seen in the form of institutional money flows. Institutions move glacially and once their fund flows start to move in one direction, the trend doesn't reverse itself easily. Kevin Marder, writing at Marketwatch , recently detected signs of institutional selling:

Like an elephant getting in or out of a bathtub, their buying and selling is there for all to see. Despite prices holding up near their highs in many cases, there is net selling taking place in the liquid glamours, as well as in some of the tertiary leaders.

While this began a few weeks ago in some cases, Tuesday it was seen in a number of stocks, including Priceline.com , Facebook and LinkedIn, name just a few.

Notably, this selling occurred on a day in which the Nasdaq Composite was up. Others not listed above were distributed on Monday or Wednesday.

Perhaps the truest sign of institutional sentiment are the liquid glamours, those titles that are gifted with rapid earnings growth and also deep liquidity. Institutions can never own enough of these simply because liquid glamours do not grow on trees. Large investors, such as mutual funds and pension funds, often overweight these names in their portfolios as a means of differentiating their performance from those of their peers and their benchmark, e.g. the S&P 500.

My own long-term risk-on/risk-off fund flows model flashed a sell signal on Friday, indicating a the start of sustained selling pressure. Indeed, the BoAML fund manager survey confirmed that institutional investors continue to scale back their US equity holdings, though they remain overweight (via Marketwatch ):

Asset allocators have scaled back their equity holdings. A net 49 percent of global asset allocators are overweight equities, down from a net 60 percent in September. Over the past month, investors have reduced their positions in eight out of the 11 sectors monitored by the survey. Last month, a net 9 percent of the panel remained overweight U.S. equities, and this month, that measure has dropped to zero percent. At the same time, investors have shifted back towards fixed income, scaling back their underweight positions in bonds and portfolio cash levels rose.

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None of the information or opinions expressed in this blog constitutes a solicitation for the purchase or sale of any security or other instrument. Nothing in this blog constitutes investment advice and any recommendations that may be contained herein have not been based upon a consideration of the investment objectives, financial situation or particular needs of any specific recipient. Any purchase or sale activity in any securities or other instrument should be based upon your own analysis and conclusions. Past performance is not indicative of future results. Either Qwest or I may hold or control long or short positions in the securities or instruments mentioned.

Written By: Cam Hui