Mike Santoli's market notes: Patient investor punished, dash for trash, strong market internals

Published Wed, Jun 3 20202:36 PM EDT

Over the past 50 trading days since the March 23 low, the core question has gone from "Is the bottom in?" to "Will we retest the low?" to "Why is the market shrugging off all the bad news?" to, now, "What could possibly stop this relentless rally?" The unpopularity for much of the past couple months of the bullish case (smooth, strong reopening/Fed and fiscal support sufficient/no widespread credit distress) - and the fact that this upbeat thesis can't easily be refuted for many weeks or months - has given stocks the time and room to recover and punish the patient investor sitting in cash or defensive stocks. The answer now about what could stop it: Sentiment getting overoptimistic, investor positioning growing too aggressive, expectations for immediate economic recovery becoming too strongly entrenched. We might be getting there, though it's more a process than a moment. The tape, with today's upward lunge , appears solidly in chase mode – some capitulation by the cautious is palpable. Reasons for short-term wariness here? Options traders continue to binge on upside call bets, dragging the put/call ratio toward multi-year lows. Some 98% of big stocks are above their 50-day average, which is both a near-term sign of overheating and a generally reliable signal historically that further gains are likely in the months ahead. Are enough investors still fighting this move to mean the "pain trade" is still higher? It's less clearly the case than in past weeks but most of the mood and positioning gauges are also short of alarming peak-type readings. Here's the weekly Investors Intelligence gap between bulls and bears: A lot of upside technical targets have been around 3100-3140 for the S & P 500. That's where an initial post-peak rally attempt failed in early March, and represents a recovery of more than three-quarters of the total losses in the waterfall decline. It's just about there. We'll see if this provides a logical stall/pullback point. Dips have been brief and shallow the whole way up so far, of course, but we'll see if that changes with more air under the index and arguably a bigger FOMO-driven push this last stretch. There is no outright valuation case to be made for stocks here, exceeding 20-times forward earnings, but the 12-month profit forecasts have stopped falling at least. And dividend yields compared to bond yields offers some refuge for fans of relative-value arguments. Credit market continues to underwrite equity values and bolster risk appetites. Investment-grade corporate debt yields have dropped below 2.5%. In theory, this means the cost of equity can go lower, which is another way of saying investors can see their way to paying more for each slice of corporate ownership. Unclear how much more juice there is in this symbiotic interplay of credit and equity, but helps explain why we're here. It remains a grab for the discarded laggards as investors rush to add exposure to the economic-rebound story. Of the 50 top gainers today in the S & P 500, only two are within 30% of its 52-week high. Call it a rotation toward cyclical value, call it a grab for "beta," call it a dash for trash. The fact is, the market is rewarding cyclicality and financial leverage. In a way it's textbook post-recession action. And these groups still have a lot of ground to make up before the market is pricing in anything close to a return to pre-Covid "normal." The PEL entertainment/leisure ETF is still 30% off its peak, same with regional banks and airlines down 50%, even after ripping rallies off their lows. Breadth is strong again today, close to 80% of volume in advancing stocks. The VIX is finally succumbing to the tenacious equity advance, printing a new post-crash low below 26. It has been slow to give up the anxiety premium but now being dragged lower. Certainly not an all-clear, with the gauge still elevated versus the long-term average. And VIX futures continue to show a bump in expected risk around the election. But it's pulling more into line with equity action.

Over the past 50 trading days since the March 23 low, the core question has gone from "Is the bottom in?" to "Will we retest the low?" to "Why is the market shrugging off all the bad news?" to, now, "What could possibly stop this relentless rally?"
The unpopularity for much of the past couple months of the bullish case (smooth, strong reopening/Fed and fiscal support sufficient/no widespread credit distress) - and the fact that this upbeat thesis can't easily be refuted for many weeks or months - has given stocks the time and room to recover and punish the patient investor sitting in cash or defensive stocks.