DEDUCED RECKONING: Stock market never bottoms without FEAR but remain patient

2021 began with the market seducing novice investors into believing it was truly easy to make money day-trading stocks. It didn’t matter if the company made any money doing whatever it “did.” If the fellows at Robinhood/Reddit could promote it to their legions of new customers, their latest pump it and until they dumped it stock idea was a sure winner. Companies heading to bankruptcy were suddenly on fire. Prices paid didn’t matter. Until they did.

Last year, Cathie Wood, while ignoring all established rules of professional investors, saw her fund peak at $159.70 per share on 2/16/21. She sincerely believes that earnings are irrelevant if the company is disrupting whatever industry it is in. As money surged into her funds, she just bought more of what she already owned. Pushing those stocks ever higher. It was a self-fulfilling prophecy until rational thinking took over.

Over the last 14 months it has. This week ARKK Innovation fell to yet another new low below $51, a stunning loss of 68% of assets from her peak. Even though Wood’s “hot hand” is down by 68% since a year ago, she is still taking in new assets. I find that shocking because Wood must be up 330% from here to get you whole if you invested with her a year ago. That is stunningly impossible and I am certain she will never do that in the next decade.

In Q1 2021, the percentage of stocks trading above their 200-day moving averages of price exceeded 94% for each and every major average. I drew attention to that highly unusual circumstance because it has happened so rarely in my decades-long career. When 94% of stocks are soaring, the market is picked over and there are no bargains left to buy. Excessive extremes like that only resolve with a massive correction. It took a year but a correction is now fully underway.

Those 10 FANGMAN giant tech stocks were so dominant in the size-weighted indices like the S&P 500 that they subsumed the performance of the other 495 stocks in that index. (Yes, there are 505 stocks in the S&P 500). These giant companies pushed the S&P 500 to a full year 2021 gain of 27%. Yet fully half of the stocks in the S&P 500 have now dropped in half and many are down 70% or 80%. The mega caps are now imploding, too, leaving no safe place to hide. Buy every dip has given way to “oh my goodness, the world is coming to an end” as stocks retreat unrelentingly.

One never knows what will precipitate a selloff but this year we have a plethora of things to blame: supply chains, Putin, Ukraine, the price of oil, rising interest rates as the Federal Reserve takes aim at inflation, stocks at absurd valuations. Frankly, inflation running at 8% sounds terrible but it was 15% when Paul Volcker was trying to crush it in 1972. This, too, shall pass and the economist I value the most, Elaine Garzarelli, is convinced inflation will be subsiding before the election and that the Fed will engineer a soft landing, not a terrible recession.

We have been 40% in cash since last July when I was raising red flags. We missed the crazy year-end rally but that is fine with me. I am very happy to be cautious as I have suggested you be for months now. Price/Earnings multiples are contracting. Robinhood is struggling. Investors are losing interest in crypto and other highly speculative assets. You never have a bottom without FEAR. People are just beginning to realize how much they have lost. Be patient. It is going to get worse before it gets better.

Joan Lappin CFA has been called an “investment guru” by Business Week and a “top manager” by the Wall Street Journal. The Sarasota resident founded Gramercy Capital Management, a registered investment adviser, in 1986. Email JLappincfa@gmail.com. Follow her on twitter: @joanlappin. Her past columns appear at heraldtribune.com/business/columns.

This article originally appeared on Sarasota Herald-Tribune: JOAN LAPPIN: It took a year but a market correction is fully underway