conventional wisdom: competing paradigms

One of the oldest rules on Wall Street is that a bear market isn’t over until the last bull capitulates. In the past, the obvious questions have been: how we can know who the last bull is and how we can tell that he/she has finally given in to despair and sold. Arguably, the identity doesn’t matter that much and we see the capitulation through a selling climax–meaning a dramatic market decline on huge volume.

During the past few market cycles, the investing world has changed so that it is no longer the resolve of professional portfolio managers that is crucial. Rather, panic selling has become a group affair, with individuals holding shares in mutual funds, mostly no-load, doing the damage. (During one big downturn when I was managing a load fund, for example, I lost about 5% of my assets to redemptions. A comparable, though somewhat weaker, no-load competitor from Fidelity lost something like a third of its.)

Today it seems to me that if there is a last bull it’s Cathie Wood. If I understand her behavior correctly, she’s responded to the loss of two thirds of her asset value over the past year by increasing her portfolio concentration. This is the opposite of what conventional portfolio management wisdom would prescribe, though one might argue that hers is mainly a move out of the group’s least liquid names. In any event, my guess is that Ms. Wood herself won’t capitulate.

Does the bear market go on forever, then? No. Capitulation will likely come through ETF holder redemptions, especially in the ARK arena. As far as I can tell, this hasn’t happened yet.

A second, equally venerable, rule is that the stock market acts in a way that makes the greatest fools out of the largest number of people. For a portfolio manager, this implies: read/hear the financial news, try to figure out what the consensus opinion is …and then set up a portfolio based on the premise that the opposite of these consensus beliefs will play out.

The underlying assumption is that information flows from companies to a cadre of professional securities analysts, who know the companies well and also gather data from government and industry sources. After they have informed clients of their conclusions and given time for them to to act, the analysts typically begin to release their findings to the financial media. By the time media personalities, who tend to have no stock market knowledge or experience, begin to weigh in, the developments they are talking about would have already been pretty well already factored into stock prices.

So this indicator seems to be giving the opposite signal.

The issue I see is that in the cost-cutting the big financial firms undertook following the financial crisis of 2007-09, most/all brokerage firms decimated their stock research staffs (many mutual fund companies had done something similar with their in-house analysts a decade earlier, becoming radically dependent on sell-side research). This has eliminated the most important information source–a cynic would say the only one–for the financial media.

The result is what we see in the offerings of today’s financial media–highly emotionally-pitched gibberish. Lots of emotive performance, lots of jargon, lots of reaction to company or government data announcements, but no anticipation or analysis.

As for myself, I think the ideas of inflation and recession have been more than beaten to death in the stock market media. But because the essential link of the analyst community between press and portfolio manager has been lost, it’s hard to judge whether the current media near-hysterical pessimism extends beyond the broadcast studio. If it does, that’s a good sign, not a bad one.

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