Investors Go From Overoptimistic to Sort of Pessimistic -- Journal Report
22 January 2019 - 02:50AM
Dow Jones News
By James Mackintosh
The rarified air of the Swiss Alps helped reveal a scary truth
to investors attending the Davos forum last year: The elite
gathered in Switzerland were wildly optimistic about the economy
and markets. The catchphrase was "synchronized global recovery,"
and it appeared the market bears had been vanquished.
The confident mood was impossible to miss -- and it offered a
perfect sell signal for those paying attention.
Optimism has since turned to pessimism. But investors and
economists are nowhere near as pessimistic now as they were
optimistic then. As a result, this year's meeting isn't likely to
justify a contrarian move to buy. This year, fundamental economics
matter more than mood.
Investor sentiment is most important when it is extreme. When
investors are deeply negative, even a hint of good news can offer a
pleasant surprise. Equally, when investors are complacent and
piling on risk, they can be shocked if the news isn't uniformly
perfect.
This time last year, investors were clearly complacent about the
global economy, following a surprisingly good 2017. Measures of
mood aren't scientific, but one of the longest-running gauges, from
Investors Intelligence, showed bearishness at an all-time low among
writers of finance newsletters. The proportion of self-reported
bulls minus bears in the American Association of Individual
Investors was the highest since 2010 in the weeks before Davos.
More than 80% of analysts' profit forecasts for S&P 500
companies were upgrades, too, the biggest proportion in IBES data
back to 1985.
This optimism was obvious in markets. Demand for put options to
protect against falling U.S. stock prices was the lowest in three
years relative to demand for call options, which gain from rising
stocks. The S&P hit its highest valuation -- using Wall
Street's favored ratio of price to estimated operating earnings for
the next 12 months -- in 15 years.
Investor optimism was mirrored by high levels of confidence in
economic growth around the world, confidence that proved sadly
misplaced.
The U.S. economy did well, but as the rest of the world slowed,
investors eventually turned gloomy.
They are not deeply pessimistic, however. There is still an
expectation that what's coming is weaker growth, not recession.
Sentiment measures remain higher than those seen in the postcrisis
scares of 2010, 2013 or early 2016. Sure, investors have lost their
complacency. There was even a whiff of fear at the end of the year,
as stocks fell hard. But investors haven't panicked -- yet -- the
way they often have in the past.
So was that it? Is the bear market done?
Bullish sentiment isn't so depressed as to make an equity
rebound especially likely. Instead, much rests on the fundamentals
of the global economy, which in turn depend to a big extent on the
U.S.-China trade war and on central banks.
If Donald Trump and Xi Jinping can mend their differences before
the next round of U.S. tariff hikes threatened for March, investors
will be delighted. But Mr. Trump has canceled his Davos visit after
shutting down the U.S. government in his fight with Congress, and
Mr. Xi isn't due to attend. So trade negotiations aren't likely to
be advanced behind the scenes in Switzerland.
Meanwhile, decisions by central bankers could be as important to
markets as progress in trade talks. Federal Reserve policy makers
have been making dovish noises since U.S. stocks briefly fell into
a bear market on Christmas Eve, and investors have been
hypersensitive to their comments. Easy money is generally good for
investors, all else being equal. But Fed policy makers and Chairman
Jerome Powell emphasize that they are "data dependent." That sounds
dovish when the data have been disappointing and politics hurts
growth. But if no more shots are fired in the trade war and the
global economy starts to pick up again, that same data could put
the Fed back on a tightening path.
Investors are probably right to think the Fed is ready to help
if things get worse. But if things look better and markets get
tanked up, the Fed will be taking away the drinks.
Even on this best-case outcome, those attending Davos parties
should be prepared to accept sober equity returns -- and plenty of
wild lurches before they get there.
Mr. Mackintosh is a columnist for The Wall Street Journal in
London. He can be reached at Iames.mackintosh@wsj.com.
(END) Dow Jones Newswires
January 21, 2019 10:35 ET (15:35 GMT)
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