Weekly Wrap

Weekly WrapUh-Oh…

Calendar Icon   Friday, 26th February 2021

The headlines above are from various media sources this week and they paint a very precarious picture for the share market. When we get advice from Warren Buffet’s right-hand man that the market is in a bubble and must end badly, the sheer longevity and success of Berkshire Hathaway suggests that the markets ability to rally further is limited.

For the teenager who has managed to ride the coat-tails of one of the fastest bull markets in history, the future looks rather bleak. It is one thing to turn a small amount of money into a nice portfolio, but to keep it growing as Berkshire Hathaway have done since the 1960’s, is the real challenge.

We have spent the past few weeks alerting readers to the fact that at certain stages in a business cycle, financial markets enter bubble territory. The common theme of these bubbles is that it is easy to make money and there seems to be no end to it.

The reality, of course, is that successful investing is hard, not easy. The ability to make money is more impressive over a long period of time rather than being ‘lucky’. Experience tells us that we are at the very end stage of the bubble.

One of the curious effects of a bubble is that despite many warnings, the large majority of the crowd declare there was no warning. This is because as humans we tend to herd when under pressure and the Fear of Missing Out (FOMO) becomes the dominant thought process.

XJO Update

Below is a chart for the XJO. We can see the rally from the start of November last year, at 5,951 points, to the 17th of February this year when the index peaked at 6,917, for a total of 966 points.This 16% rally has occurred against a backdrop of weakening technical indicators.

A distinct lack of volume (not shown) into February also gives us a hint that the market may be approaching a high, or has already peaked.

If the market is set for a correction, a target around 6,500 points would be a 50% Fibonacci retracement.

XJO Chart

A Quick Snapshot

Market Optimism is at an extreme. The current thinking is that because interest rates are low and will stay that way, shares are the best place to invest because of capital growth and dividend yield.

However, even the professionals are ‘all-in’ as we can see from the chart below. This is a chart of the Active Investment Managers Exposure and they are at record levels of share ownership. Apparently, even the most bearish managers have a 75% share exposure. This is what the market calls a crowded trade.

Active Investment Managers Exposure Chart

US 10 year bonds have rallied from 0.5% in September 2020, to reach 1.5% overnight. In normal times, this would be catastrophic for the bond and share markets. However, one of the features of a bubble is that the normal warnings are ignored.

US 10 Year Bonds Chart

The US Dollar Index has been in a major bear market for the past 12 months. This has contributed to the share market advance, but the dollar has staged a slight recovery in the past few weeks. You can see on the the chart below that the index has rallied since the start of 2021, in what may be a sign that the safety of the world’s currency is starting to become more attractive.

US Dollar Index Chart