You’re probably familiar with the observation that the market can remain irrational longer than you can remain solvent.
Watching money pour into stocks month after month, we all feel the brush of the “irrational” now and then. Even according to optimistic measures, the S&P 500 currently is valued at 22.5X forward earnings projections somewhere between rich and euphoric: bubble territory.
But that number didn’t simply emerge out of nowhere, and the market is not truly irrational. If investors were truly in the grip of a speculative fever, we wouldn’t even be talking about valuations. Instead, everyone on the news would be gushing about a new order on Wall Street that renders fair pricing obsolete and irrelevant.
Don’t Fight Trillions of Dollars: The Day of Reckoning Has Not Arrived Yet
Maybe that day is coming, but we aren’t there yet. Right now, the market has strong and objectively rational reasons to hold onto stocks and even keep buying more.
Ironically, that rational mindset is the biggest threat Wall Street will face in the coming months. If you’re worried about a correction ahead, don’t blame hot money. Blame cold hard math.
You know what I think about the market as a whole. My YouTube channel is constantly updating with my latest thoughts and projections.
Don’t Fight Trillions of Dollars in Fiscal Stimulus
Wave after wave of Congressional stimulus has already pumped trillions of dollars into the economy, and the next few federal budgets will undoubtedly unleash even more cash. Meanwhile, the Fed makes sure infinite liquidity is available at minimum cost.
People can borrow whatever they need to buy whatever they want. And even if Congress and the Fed stop spending tomorrow, there’s still $4 trillion on the sidelines waiting to be deployed in assets that will actually make money.
That money is real. The truly big players in the global market have parked more cash in money market funds than ever, waiting for an opportunity to put it to work.
Don’t Fight Trillions of Dollars Even If It Looks Like a Flight from Risk
Right now, of course, that $4 trillion allocation looks like a flight from risk. There’s no other reason to explain why institutional investors would accept close to a zero return unless they didn’t like anything else.
As far as I’m concerned, Treasuries remain “trash” until yields rise above the Fed’s inflation target. Money markets may pay close to zero, but at least they’re liquid and mature well before the dollar has a real chance to deteriorate.
And stocks are volatile and seem rich. I think the $4 trillion represents a sense among Wall Street’s elite that the market has come a little too far for comfort. The numbers may add up, but even the biggest money managers can get nervous.
Don’t Fight Trillions of Dollars That Provides a Pool of Liquidity to Tap
I don’t blame them. It is good to have a pool of liquidity that you can tap when everything else fails. When your mood improves, you can use it to buy back into the market and earn a real risk-adjusted return.
But in a well-balanced portfolio, that cash allocation shouldn’t be huge. I did the math and Wall Street has about 6% of its wealth in cash right now: a little high, but reasonable by historical standards.
I think people are holding their nose a little because stocks only look great in comparison to bonds. They’re keeping cash in reserve for a bargain buying opportunity.
Don’t Fight Trillions of Dollars but Earnings Pose a Big Question
Bargains emerge after a market correction, when some external shock shakes investor confidence. With the Fed on guard, what would create that kind of shock in the immediate future?
It is not taxes. While a federal revenue grab is a long-term shadow on the market, right now, Washington is too busy flooding the world with money to make a serious effort to grab for our wallets.
It is not inflation. Only stocks have any chance of staying ahead of a deteriorating dollar in the long term, and in the short haul, even an inflationary spike is usually a sign of an economy hot enough to keep shareholders cheering.
Watch the Fundamentals but Don’t Fight Trillions of Dollars
The biggest threat I see right now comes from the fundamentals themselves. Wall Street has talked itself into this being the biggest quarter for earnings since 2018.
Maybe, maybe not. Corporate guidance has been extremely vague. Analysts are projecting their own fantasies onto a blank slate. The real numbers may be shocking.
And in that scenario, people who still care the most about the numbers will flinch. The most rational investors are already nervous about valuations. Any weakness on the “earnings” side of the price-per-earnings calculation will need to be compensated with a drop in stock prices.
That’s the correction: rational, efficient and ultimately transient. In that scenario, we’d be buyers.
Don’t Fight Trillions of Dollars, Which Brightens the Outlook for Stalled Stocks
Other stalled stocks have a brighter future. Stocks that dominate my IPO Edge come to mind. They’re new to the market, often overlooked on Wall Street and are vulnerable to the market’s mood swings.
But if you’re nervous, consider my Value Authority, where the goal is to lock in dividend yields and buy freedom for the rest of the portfolio to ride the market waves.
Cannabis Corner: The New Tilray Will Be Stronger
Another sour week for most marijuana stocks ended on an extremely sweet note as Aphria Inc. (NASDAQ:APHA) shareholders formally voted to merge their company with Tilray Inc. (NASDAQ:TLRY).
Both stocks surged, seemingly in relief, erasing some of their losses accumulated earlier in the week. Ultimately, any progress toward pushing these two companies together will be good for the entire industry.
On their own, APHA and TLRY have plenty to attract investors, but at the end of the day, they’re still just two more major cannabis cultivators selling plant products.
Canopy Growth Corp. (NYSE:CGC) and Aurora Cannabis Inc. (NYSE:ACB) are in roughly the same business, and then you have all the minors jockeying for scraps of market share. Combining two of the biggest names streamlines the competitive map significantly.
After all, APHA was only fractionally bigger than CGC in terms of sales and TLRY was roughly comparable to ACB. But in combination, APHA and TLRY create clear leadership.
We’ll know who calls the cannabis shots once this deal is complete. That company will be in a much better position to set reasonable pricing and rescue industry profit margins from their current race to the bottom.
And the really exciting thing is that CGC and ACB will need to respond. Maybe they’ll merge too, although that idea has been suggested and rejected already.
It is more likely that these companies will need to aggressively acquire smaller rivals to maintain their market presence. Consolidation is good.
But it’s ultimately expensive. I don’t see CGC or ACB buying their way to making shareholders happy at this stage. Only APHA and TLRY have managed to concoct a truly transformative deal here.
If you made me buy one major cultivator, it would probably be APHA or TLRY. Which do I prefer? I’ll tell you later.