Stock investors beware: There can be too much of a good thing

Published Sat, Apr 17 20218:42 AM EDT

Whether there can be too much of a good thing has divided such thinkers as Aesop, Mark Twain, Mae West and Jerry Garcia over the centuries. On Wall Street, the evidence shows that positives can pile up too high to keep driving stocks higher, but discerning when a market crosses the line from all good to too good is a tricky blend of art, analysis and luck. Put somewhat differently, investors should be careful what they wish for because it can sometimes disappoint — but not always right away. The indexes' tireless climb in recent weeks and months has registered a handful of blindingly positive behaviors as the bulls have run up the score and punished the cautious. Not a bad time to scrutinize a couple of widely celebrated market trends that many investors have been rooting for, then. Strategists and traders celebrate broadly inclusive rallies, and with good reason. Extreme strength in an overwhelming majority of stocks tends to validate an uptrend and indicates a high likelihood of reaching higher prices well down the road. Yet with a pretty good chance of some give-back of gains and sideways frustration along the way. Which brings us to the fact that last week more than 95% of S & P 500 stocks were above their 200-day moving average, an extreme reached before only in two other concentrated periods over the past 20 years: September 2009 to early 2010, and near the start of 2004. Common characteristics of the current instance and the prior two: All occurred in a surging market somewhere around a year into a new multi-year advance from a dramatic bottom. But in both the prior cases, the S & P struggled to make much net progress over the ensuing several months. Another theme that was long-anticipated and widely celebrated since it began is the incipient comeback in value and cyclical stocks relative to growth sectors. While the daily seesaw action has calmed a bit since Treasury yields peaked last month and the rotation has grown more gentle and nuanced, a plurality of strategists and investors seem to want and expect value to continue making up for many years of underperformance. Can value lead whole market higher? A record percentage of investment officers in Bank of America's monthly global fund manager survey released last week expect value stocks to outperform growth, and banks were their most overweighted sector for the first time in three years. Looking at charts like this, their faith is understandable. It overlays the 1995-2003 performance of Russell 3000 Value relative to Russell 3000 Growth with the period since 2016, matching up nicely to the trough and dramatic upturn in value a couple of cycles ago. Yet value fans might want to be careful what they hope for here, given the way value achieved that steep comeback in the early 2000s: Most of the relative advantage was the result of growth stocks crashing by some 60% from peak to trough in 2002, sinking the overall S & P 500 even as value stocks held their own. The big picture: This is a bull market, a broad and sturdy one. The macro outlook is as strong as most can remember. Financial conditions are loose, and the Fed is fully intending and promising to err on the side of easier for longer. Valuations are elevated, but profit growth is fully keeping pace with share prices. Countering these abundant advantages, in the immediate term, is a market continuing to stretch further into overbought territory, a pattern of late-month wobbles since the start of 2021 after options expirations, a subtle shift toward more defensive stocks and sentiment getting complacent. Market overshooting? The S & P 500 is roughly as far above its 200-day average (about 16%) as it was at the mini-January high - before a 4% pullback and six weeks of sideways choppiness — and the more consequential Sept. 2 peak. Yet the index was also around these levels relative to its 200-day trend for much of the November/December upward grind, to no ill effect. The steeper angle of the recent grind certainly is starting to invite the label of "meltup" or an overshoot in the making. Yet the buying is rather orderly, big-cap leadership is keeping the day-to-day pace tame and the fact that many Nasdaq and small-cap names are lagging keeps this run from appearing indiscriminate. Some investor sentiment and positioning readings are for sure growing pretty lofty, yet the mood is more comfortable and complacent than voraciously greedy (at least in equities, if not in Dogecoin ). There's no denying the resilience of the tape, the unusually benign liquidity and policy backdrop and the prospect for a kind of accelerated melt-up seen from 2017 into early 2018 — or even the parabolic silliness of 1999. Yet the higher the market stretches without a break, the lower the threshold becomes for the kind of jolt that could sweep away weeks' worth of gains, and the more each new group of buyers must rely on everything breaking right to reward them in the near term.

Traders on the New York Stock Exchange.

Source: NYSE

Whether there can be too much of a good thing has divided such thinkers as Aesop, Mark Twain, Mae West and Jerry Garcia over the centuries.

On Wall Street, the evidence shows that positives can pile up too high to keep driving stocks higher, but discerning when a market crosses the line from all good to too good is a tricky blend of art, analysis and luck.

Put somewhat differently, investors should be careful what they wish for because it can sometimes disappoint — but not always right away.

The indexes' tireless climb in recent weeks and months has registered a handful of blindingly positive behaviors as the bulls have run up the score and punished the cautious. Not a bad time to scrutinize a couple of widely celebrated market trends that many investors have been rooting for, then.