Why Investors Should Be Bearish About the New Bull Market

by Kevin McCreadie, MBA, CFA®, CEO and Chief Investment Officer, AGF Management Ltd.

U.S. equity market performance has begun to broaden out in recent weeks – an encouraging sign, to be sure. But if the current bull run – fuelled by just a few big tech names – is going to survive, continued broadening may be a necessity, says AGF’s CEO and Chief Investment Officer.

The S&P 500 Index is up more than 20% from it’s October low. How confident are you in this new bull market?

While it’s true that a new bull market in stocks has technically begun – based on the rise in some U.S. indexes since last fall – it doesn’t mean the entire universe of equities is firing on all cylinders. To the contrary, the current rally has been one of the narrowest in recent memory, with just a handful of stocks making up most of the gains. At the end of June, for instance, 72% of the S&P 500’s total return year-to- date could be attributed to just six stocks, while 40% of the stocks in the index had a negative return over this period, according to Bloomberg data.

Moreover, the S&P 500 Index – which weights stocks based on market capitalization – was outperforming the S&P 500 Equal Weight Index by as much as 11% at the end of May. This represents the largest margin of outperformance between the two indexes since the turn of the century and reflects the fact that most of the high-performing stocks are also among the largest by market cap (and, therefore, make up more of the overall performance in the S&P 500 cap-weighted index than in its equal-weighted counterpart).

Granted, market performance has begun to broaden out in more recent weeks. And this is an encouraging sign. In fact, it may be a necessity if the current bull run is going to survive given how overbought many of the highest performing stocks are right now. Otherwise, where does the money flow when investors decide it’s time for them to take profits in some of these high-flyers? And even if that doesn’t happen, who is the marginal buyer of these few names going forward when they are already so broadly owned?

But here’s the potential rub: Markets are only likely to continue broadening for as long as investors feel comfortable about the economic backdrop and, perhaps even more importantly, the direction of monetary policy. After all, the reason why market performance narrowed so much this year isn’t just because many of the stocks that have outperformed are connected to the artificial intelligence theme, which is beginning to seem reminiscent of the dot.com craze of the late 1990s. They have also performed so well because they are well-known tech brands with strong growth characteristics and quality balance sheets that have come to represent safety for a lot of investors who did not feel the same way about many other parts of the market when central banks were raising rates aggressively or as bank failures spooked investors earlier this spring.

So, what’s changed? In part, the increase in market breadth in June seems to suggest a growing optimism about the U.S. Federal Reserve’s decision to pause its rate hiking cycle – at least for the time being. Even if the Fed ends up raising rates again later this year as it has said it will do, there is a consensus that the worst of the rate increases is behind markets and that rate cuts may not be too far off, albeit not likely until sometime next year.

At the same time, there is a burgeoning belief that a recession can be avoided despite months worth of speculation that it was inevitable. No doubt, this stems from the idea that rate hikes haven’t put much of a dent in key economic indicators like unemployment, but have been “doing the job” when it comes to reducing inflation, which has fallen by more than half since this time last year.

In other words, the idea of a “soft landing” is gaining credence with some investors despite there being no guarantee that such an outcome is in the cards. Remember, rate hikes affect the economy with a lag. And, because of that, it’s unlikely their negative effect on borrowing – and therefore economic activity – has been fully realized just yet – nor does it seem likely to us that a recession can be avoided once this effect finally does take hold.

Ultimately, the bull run in U.S. stock markets doesn’t quite jibe with the reality of the current environment and in some respect (i.e. its narrowness) seems almost like a mirage. That doesn’t mean it can’t continue, but it will surely take more than wishful thinking to keep it going.

The views expressed in this blog are those of the author and do not necessarily represent the opinions of AGF, its subsidiaries or any of its affiliated companies, funds, or investment strategies.

Commentary and data sourced from Bloomberg, Reuters and company reports unless otherwise noted. The commentaries contained herein are provided as a general source of information based on information available as of June 29, 2023 and are not intended to be comprehensive investment advice applicable to the circumstances of the individual. Every effort has been made to ensure accuracy in these commentaries at the time of publication, however, accuracy cannot be guaranteed. Market conditions may change and AGF Investments accepts no responsibility for individual investme20230630-2978676nt decisions arising from the use or reliance on the information contained here.

This document may contain forward-looking information that reflects our current expectations or forecasts of future events. Forward-looking information is inherently subject to, among other things, risks, uncertainties and assumptions that could cause actual results to differ materially from those expressed herein.

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