"Markets climb walls of worry" is one of Wall Street's oldest adages. Our markets have been climbing, and if the old adage holds, there may be additional climbing in store. But does the current economic climate warrant such dire sentiments? Housing data are showing improvement; the unemployment rate continues to come down (we are well aware of the counterarguments here); corporate earnings reports are not overwhelming, but they are positive; the consumer continues to spend; and inflation, according to the recent Consumer Price Index, is benign. So why all the long faces?
PIMCO's Mohammad El-Erian wrote, "Over the last few months, central bankers have re-inflated the wedge that separates weak fundamentals from high market prices.
Investors should not get too carried away.
There is a limit to how far and how long prices can deviate from fundamentals. This is particularly the case when central banks, acting without the support of other government entities, do not have sufficiently-refined tools to secure good and sustainable economic outcomes....
Central banks should be respected. And they can certainly counter air pockets, but not forever."
Combine concerns about Central Bankers with an election and fiscal cliff, and you have more worries than any investor should need. But this nagging worry has not led to positive investment outcomes over the course of the year. Those choosing to sit out this year's ride have missed out on some very strong gains. Those believing they can time the markets have been summarily humbled. For our part, we have been preaching Mohammed El-Erian's sermon for many months now. But we have also said that investors should stay invested because nobody can predict short-term market moves with any degree of precision.
Many people have been kind enough to participate in our quarterly Arrogance Index Survey. It attempts to track investor confidence levels in the stock market over time. The latest survey showed surprising results. Usually a coincident indicator, there is a great divergence between a rising market and falling sentiment.
Arrogance SEntiment Survey vs. S&P 500
That investors are far from bullish may indicate more life and potential upside to this market rally. But nobody really knows. The third quarter saw quality blue chips enjoy better relative performance. As our posture remains defensive, we hope that this beneficial trend will continue.