Friday, 7th May 2021
ASX 200 Index (XJO)
The XJO has moved higher almost every month for the past 14 months, with the exception of September last year. The previous high for the XJO was 7194 in February 2020 and it would appear that this target is within sight for the index. We can see the technical indicators are at levels that indicate an overbought market. However, the upward momentum is strong at this stage.
At this point in the market cycle a cautious approach is prudent. Markets tend to turn fast after such a strong run.
One of the most telling features of this current mania is the fact that the investment community thinks it’s normal. The current market valuations and level of speculation is at such historic levels that they dwarf anything that has gone before it. The psychological aspect of this market rally should not be underestimated. When valuations and prices for obscure and basically worthless investments become ‘normal’, the end is in sight.
March 2021 saw the US market list a record 135 IPO’s, compared to March 2020 when 45 IPO’s came to the market. The size is historic but also the quality (or lack of) is important as well. In 2018, 81% of IPO’s were issued by money-losing companies. The first quarter of 2021 has seen 328 SPAC’s created. Interestingly, the number of SPAC’s issued is at record levels but the value of them has declined 15% since February this year. SPAC’s are known as “blank cheque companies”. They are formed strictly to raise capital through an initial public offering (IPO) for the purpose of acquiring an existing company.
We have previously mentioned that GameStop set the tone for this manic behaviour, with a rally of 2716% in 28 days during January this year. The shares are down 65% since the high, yet the appetite for the shares has not diminished amongst the retail investors. GameStop is still an unprofitable video-game retailer.
The mania is still rampaging through markets such as Non Fungible Tokens (NFT’s), with the Paris Hilton NFT selling for more than US$1m. Apparently you can buy NFT’s on a platform called BitCloud, which has a slight issue if ever you want to sell your collection: it doesn’t allow selling.
The plethora of bullish articles in the media of late is reflected in the collage below, with a universal view that the ride is only just beginning. The same headlines appeared back in 2008, 2000, 1987…etc, etc.
Finally, one area where the manic behaviour has become normalised is in the Credit Spread in the High Yield Corporate bond market. The hunt for yield has become so pervasive that investors are willing to buy the worst rated bonds that are more likely facing bankruptcy than anything else, simply because they show some yield.
The chart below shows the spread between the junk bonds and the risk free rate. When times are uncertain and prices are in free-fall, the spread widens as investors shun the risky investments in junk bonds and flee to Treasury notes. Lately, the market has become so complacent that this spread has narrowed to a level last seen back in 2008.
This implies that investors see no risks on the horizon and are prepared to accept a level of risk that is normally shunned in ‘normal’ times. We can also see on this chart that when the spread is this close, the reversal is quite rapid.
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