Why Are So Many People Feeling Bullish?

So, here’s something I’ve found myself wondering lately about the stock market (SPY)…maybe you’ve wondered the same thing. The fundamentals are still mostly negative. Less negative than we thought… but still negative. So why are so many people feeling bullish? Read on to find out the answer.

(Please enjoy this updated version of my weekly commentary originally published January 24^th, 2023 from the POWR Growth newsletter).

As I wrote in last week’s commentary, the stock market (SPY) is a complicated place to be right now.

There are a handful of potentially positive signs (the recent rally, some important earnings surprises, softening inflation numbers), but there are also still a number of potentially negative signs (more big layoff announcements, some key earnings misses, a hawkish Fed).

If you look at the broad market indexes, the bulls appear to be winning this tug-of-war game.

And I think that’s because they’ve convinced themselves that the negative has already been priced into stocks.

And as much as I want to be optimistic (and I can’t ignore those green shoots!)… that’s a dangerous place to be investing from.

If this rally is based on the assumption that the negative is already priced in, then…

1) We’ll need some other positive news if we want stocks to continue higher.
2) Everyone is in for a very unpleasant surprise if it turns out the negative wasn’t priced in.

In that second scenario, we’d likely see two waves of selling — one selloff driven by some kind of negative news and a second wave of sellers selling because they were spooked by the first wave of sellers.

“Almost any pin can prick such supreme confidence and cause the first quick and severe decline,” wrote Jeremy Grantham, the co-founder and long-term investment strategist of GMO. “They are just accidents waiting to happen, the very opposite of unexpected.”

Now, Grantham is one of Wall Street’s best-known bears. If anything, it might be more alarming if he wasn’t calling for a severe decline. But his message rings true to me.

They are just accidents waiting to happen.

If we want the bullish atmosphere to stay alive, the next two weeks will be especially important to get through accident-free.

First of all, we must navigate earnings season, which we are already in the middle of. This season was loaded from the beginning, with many watching it for evidence that a recession is looming.

In the run up to the first reports, many companies revised their own guidance for the quarter lower. Of the 101 companies in the S&P 500 (SPY) had issued guidance for Q4 2022, 67 had issued negative EPS guidance. That’s more than usual based on both the five-year and 10-year average.

We’re also seeing lower profit margins for the quarter, which could be a bad sign if costs continue to rise faster than sales, which has been a recent trend. And inventory bloat has proven to be an existing problem for certain retailers, like Nike and Nordstrom.

On top of that, a number of companies are issuing negative guidance and outlooks for the upcoming first quarter.

Then, at the beginning of February, we’ll have our next update from the Federal Reserve. Currently, markets are pricing in a 99.1% chance of a 25-basis point hike.

Now, I’m not saying we WON’T get a 25-basis point hike… but that is a perfect example of the pin that could pop the optimism bubble.

Or!

We could easily thread the needle through all of these potential pitfalls like some kind of financially-inclined Mr. Magoo.

Conclusion

I’ll be watching earnings closely… as will the rest of the market. If companies continue to beat estimates or at least deliver more positive forward guidance than investors are expecting, we should be able to sidestep any potential bubble-popping pins. Then, we’ll be on to the next Fed meeting.

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