April 23, 2021
By Steve Blumenthal
“Where ignorance is bliss, ’tis folly to be wise.”
– Thomas Gray
British Poet, “Ode on a Distant Prospect of Eton College”
I’m fortunate to be on the receiving end of a great deal of research. Some I pay for; some is available to all of us. I’m particularly interested in what the investors with considerable skin in the game are thinking––Stan Druckenmiller, Felix Zulauf, Ray Dalio, Howard Marks, Seth Klarman, Warren Buffett, etc. Each week, I forward the research material I come across to an electronic file, capturing information I believe is meaningful to share with you. I use something called Evernote, and it’s usually the first place I look every Friday morning as I think about what may be valuable to pass on. This process of reading, reviewing, and writing helps me sharpen my thinking––and I hope it helps you too.
Today I share a few random thoughts, based on what I’ve found notable this week:
- Insiders are selling at a record pace
- Corporations are buying back their stock
- Margin Debt
- The S&P 500 Index is three standard deviations above trend
Insiders are Selling at a Record Pace
The ratio of insiders’ stock sales-to-buys recently rose to 143-to-one, according to data from Sentiment Trader, the highest since 2006 and nearly double the previous high. You can read about it in Barron’s: Company Insiders Are Selling Stocks. Others Are Buying. What That Means for the Market. Here are my notes:
- Those with their ears closest to the ground on companies are selling equities, while others are buying. This isn’t exactly a positive for stocks.
- While an elevated ratio of buying to selling is more indicative of market strength ahead than a high sales-to-buy ratio is a sign of weakness, “it would be better to see this [statistic] at least in neutral territory,” wrote Jason Goepfert in a note.
- Meanwhile, investors are borrowing against their existing holdings of stocks, a dynamic that has sent outstanding margin debt up 72% year over year. That is the fourth-highest increase since at least 1960.
In a picture, insider selling vs. insider buying looks like this:
Who, then, is buying?
My friend John Mauldin wrote a piece titled, “Tsunami Warning,” touching on the amount of money flowing into stocks over the recent months. His friend Doug Kass of Seabreeze Partners recently shared the following chart. It shows the inflows to stock funds since November 2020 exceeded the total inflows of the last 12 years. Five months vs. 12 years.
The above does not include money flowing into individual stocks via trading accounts. Double or more? Possibly. Mauldin wrote, “Where is the money coming from? The obvious answer is from the Federal Reserve and government stimulus.
John included this next chart from Quill Intelligence founder Danielle DiMartino Booth to give us a sense for just how completely out of historical context the current levels are (from Quill Intelligence):
Corporations are Buying Back Their Stock
While insiders (senior management) are selling, their corporations are borrowing more money and buying back their stock. Take that in for a minute. Some of that borrowed money is buying out their stock options. Allowed? Yes. Should it be?
From Axios Markets:
It was expected that with the economy improving and company balance sheets already loaded with cash, U.S. firms would slow down their debt issuance in 2021 after setting records in 2020. But just the opposite has happened.
Why it matters: Companies generally issue bonds for one of two reasons — because they’re worried about not having enough cash to cover their expenses or because they want to lever up and make risky bets.
- Since U.S. companies currently are holding record amounts of cash, now looks to be an example of the latter.
Driving the news: Bank of America announced a record $15 billion debt offering on April 16, which topped the previous all-time high $13 billion issuance from JPMorgan on April 15.
- JPM, BofA, Goldman Sachs and Morgan Stanley have collectively announced bond issuances of $40 billion in debt this month — and that’s just the banking sector.
- This follows a record quarter of debt issuance from junk-rated, or high-yield companies, which issued $157 billion of debt in the first quarter.
What they’re saying: “We are going to buy back a substantial amount … as soon as we can,” Bank of America CEO Brian Moynihan told analysts during an earnings call, before announcing a $25 billion stock buyback plan this year.
The big picture: Buybacks slowed during the pandemic as companies shifted to shore up their cash positions, but rather than deploying that cash companies are instead getting more of it via bond sales and using that cash to buy back their stock.
State of play: This boom in bond issuance and buybacks is the latest example of how the Fed’s policies are underpinning and perpetuating economic inequality and the K-shaped recovery.
- The Fed lowers interest rates so companies can borrow money cheaply, but that borrowed money isn’t used to invest in raises for employees or hiring new workers — it’s used to buy back stock to enrich C-suite executives and stockholders.
What’s next: Stock buybacks are expected to kick back into high gear after increasing by 28.2% in Q4 2020 over Q3.
- Netflix has announced a $5 billion buyback program, and tech giants like Apple are expected to announce substantial buyback programs in the coming weeks.
On the way up, margin debt is fuel used for buying stocks. The problem occurs when it reaches an extreme and reverses. The reason markets quickly crash can be tied to the forced selling/unwinding of leverage (margin calls). We got a taste of it a few weeks ago with the Archegos Capital Management collapse.
I found the next chart from Lance Roberts of Real Investment Advice (source: Advisor Perspectives) to be an interesting take on margin debt. The rate of change (ROC) of margin debt from a trailing 12-month low in margin debt is plotted. Think of it as a way to measure the speed of speculation.
Take a look at the orange spike on the far right and compare it to past periods in time. The most recent move is higher than the peaks in 2007 and 2000.
This next chart looks at “negative” free cash and “positive” free cash back to 1980. Again, focus on the far right orange bars. Record high margin debt.
Now compare 2021 to 2000 and 2007 (red arrows point to high margin debt prior to large declines). Note too, the six-month lag from peak margin in 2000 and four-and-a-half-month lag in 2007.
S&P 500 Index Is Three Standard Deviations Above Trend
We have reached “euphoria,” and while no one knows when the rug gets pulled out from under us, the risk is palpable and measurable.
One can argue that we have the cash from the government, coming infrastructure, and the Fed to keep the market trend going. And that may be correct to an extent.
Last week, I wrote a piece titled, “On My Radar: Inside the Mind of the Fed.” Bloomberg’s Tom Keene and Jon Ferro interviewed William Dudley, former president of the New York Federal Reserve. The interview was telling…
At one point during the Bloomberg interview with William Dudley, Tom Keene said, “Fed officials have said that they have the tools to combat inflation that’s higher than expected. Do they have the tools to deal with financial disruption after with this incredible surge in risk taking that has been on the heels of Fed policy? What happens if that stopped in its tracks as a result of Fed tightening policy?”
- “I think you’re raising an important question that when the Fed goes from very, very friendly to unfriendly financial markets are going to have an adjustment and the adjustment could be quite severe after such a long period of low interest rates.”
- “I don’t think the Fed cares about the stock market level per se, but they do care if the stock market were to collapse, then that would potentially hurt the U.S. economy. So the Fed does care about financial conditions in terms of how they feed into the performance of the economy.”
- The Fed is not going to run to the rescue, just because the stock market goes down.
Calculate your level of risk and adapt accordingly. Risk is highest when it feels lowest, and lowest when it feels the highest. “Where ignorance is bliss, ‘tis folly to be wise.”
Some believe if knowing something makes you unhappy, it would be better not to know it. I say it’s far better to know. As my friend Art Cashin says, “Stay wary, alert, and very, very nimble.”
Correction from last week: John B. sent me a note correcting me on crediting the late Marty Zweig with the “three steps and a stumble” rule. It was actually the late technical analysis pioneer Edson Gould who minted it. According to the Market Technicians Association, Gould, who was active from the 1930s through the 1970s, observed that “whenever the Federal Reserve raises either the federal funds target rate, margin requirements, or reserve requirements three times without a decline, the stock market is likely to suffer a substantial, perhaps serious, setback.” Thank you, John B.
Trade Signals – Transitory Inflation?
April 21, 2021
S&P 500 Index — 4,128 (open)
Posted each Wednesday, Trade Signals looks at several of my favorite equity market, investor sentiment, fixed income, economic, recession, and gold market indicators.
Trade Signals is organized into three sections:
- Market Commentary
- Trade Signals — Dashboard of Indicators
- Charts with Explanations
For informational purposes only. Not a recommendation to buy or sell any security.
Notable this week:
Transitory inflation? One of the notes I enjoy receiving each day comes from Dion Rabouin at Axios Markets (you can learn more here). This morning’s note caught my eye, “Inflation may not be so transitory.” Following is a short clip:
Procter & Gamble became the latest company to announce it will raise its prices in September to respond to higher commodity costs, joining consumer giants like Kimberly-Clark, Smuckers, Coca-Cola and a host of others.
Why it matters: Fed chair Jerome Powell and other top economists have all but decried that inflation is anchored and will not rise materially going forward, but a consistent drumbeat of price hikes from major companies, consumer reports and market data suggest the world may not be going along with their conclusion.
What’s happening: Major brands have rolled out price hikes consistently over the course of the year, along with notable increases in the price of cars, construction, furniture and the cost of gas that are starting to show signs of staying power.
- The supply chain disruption that has pushed U.S. automakers like Ford and GM to close plants this year and pushed up prices for semiconductors and some other products already has lasted longer than expected and currently has no end in sight as producers struggle with production shortfalls.
What we’re hearing: The current atmosphere of rising prices “could sustain for some time, quite frankly,” Carl Chang, a regional director at the San Francisco Fed and CEO of Kairos Investment Management, tells Axios. “I don’t think it’s a 6-month or 12-month kind of thing.”
- “Unless the Fed decides to take some major action I think inflation could run a little higher than certainly we’ve been accustomed to over the last decade.”
Take a look around: Economists also are beginning to see upward pressure on wages, as more companies are finding workers unwilling to accept ultra-low wages and the demand for white-collar positions intensifies.
- Further, with OPEC+ holding its grip on oil supply, energy prices are expected to remain elevated and Chang says he expects supply chain disruptions to continue “over the next several years.”
By the numbers: The latest reading of prices for both consumers and businesses showed sharp increases last month, with the consumer price index seeing the largest increase since August 2018 and the producer price index posting the biggest jump in almost a decade.
- The New York Fed’s survey of consumers showed Americans expect inflation to rise by the most over a one- and three-year horizon since 2014 and market gauges of 5- and 10-year inflation expectations are holding near their highest levels since 2008 and 2013, respectively.
- “All of our distributors have indicated that price increases are coming,” Don Katzenberger, CEO of S&K Roofing, Siding and Windows, told Bloomberg in late February.
The bottom line: None of this looks all that transitory.
The Trade Signals – Dashboard of Indicators follows next. Click here to see the Dashboard and Charts with Explanations from this week’s Trade Signals post.
Not a recommendation for you to buy or sell any security. For information purposes only. Please talk with your advisor about needs, goals, time horizon and risk tolerances.
Get at it and don’t be afraid to fail.
Son Matthew graduates from college in a few weeks. He’s an entrepreneurship major at Penn State. I remember when my father put his arm around me, my graduation cap in hand, smiled, and said, “It’s all uphill from here kid.” With those words and a twinkle in his eye, my father’s message was that it was time to get to work.
Indulge me as I reflect on what I will be sharing with my Matthew:
1) Don’t be a networker looking to get something from others. Instead, look to give.
- Give without keeping score.
- Add value to people’s lives.
- Lead with love, not an agenda.
- Find ways to serve.
- Show you care.
- Encourage others.
- Be a connector. (Hat tip: @JonGordon11)
2) Read Hyper Sales Growth by Jack Daly. Jack built six startups into national organizations, but his advice isn’t what you might think. It’s about building a winning culture, recruiting the right people, and developing trust with clients––and one of the best business books I’ve ever read. Plus, it’s a fun and easy read.
Every business needs sales, and sales is really about helping someone solve for something they need. If you can’t help with their need, help them find someone who can. If you really care, your genuine help develops trust.
In the book, Jack tells a story about his journey to compete in an Ironman event. A long, grueling endurance event that involves swimming, biking, and running. A big challenge made bigger because Jack couldn’t swim.
A friend referred Jack to a swim coach. One day, the swim coach asked him what kind of bike he was going to use in the race. Jack didn’t yet know. So the swim coach referred him to a professional bike fitter he liked.
Running shoes? The swim coach suggested another friend who owned a shoe store. This swim coach had been helping others train for Ironman competitions, and he had developed a network of trusted relationships.
The point is, we can’t be experts in everything. We need each other.
Listen more than you speak, so that you can learn what someone truly needs. If you don’t provide that particular service, find someone whom you trust who may be able to help your client. If you can’t find help, you can’t but you tried your best.
The swim coach, the bike shop, the shoe store. They were trusted referral sources for each other. If you are genuine and really wish to help, you will gain lifelong relationships this way.
3) Don’t be afraid to make mistakes:
4) Whatever business(s) you venture into, remember this first and foremost: Do business with people who are really good people. People who carry a bright light. It will make for a personally rich and enjoyable journey. Push the boulder up the hill or push the boulder down the hill. You get to choose. And they do too.
It’s time to get going, son… I’m really looking forward to seeing what you will create for yourself. Good luck and know your family is always with you. Including your biggest fan!
Time is going by much too fast. Thanks for reading and sharing in some of my world. My kids do read most of my weekly missives. I sure hope Matthew catches this one.
Finally, here is a toast to you, your family, and the joy in your journey. Ever forward!
Have a great week!
Stephen B. Blumenthal
Executive Chairman & CIO
CMG Capital Management Group, Inc.
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Stephen Blumenthal founded CMG Capital Management Group in 1992 and serves today as its Executive Chairman and CIO. Steve authors a free weekly e-letter entitled, “On My Radar.” Steve shares his views on macroeconomic research, valuations, portfolio construction, asset allocation and risk management.
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