Positioning Indicators at New Extremes

We are updating our suite of sentiment data again, mainly because it is so fascinating that a historically rarely seen bullish consensus has emerged – after a rally that has taken the SPX up by slightly over 210% from its low. Admittedly, a slew of such records has occurred in the course of the past year or so, and so far has not managed to derail the market in the slightest– in fact, since 2012, only a single correction has occurred that even deserves the designation “correction” (as opposed to “barely noticeable dip”).

While a number of positioning and survey data show a bullish consensus that easily dwarfs anything that has been seen before, this consensus is not reflected in expressions of exuberance by the broader public. “Anecdotal” sentiment seems more cautious and skeptical than the quantitatively measurable kind. Most likely this is because the vast bulk of the middle class has been so thoroughly fleeced in the last two boom-bust sequences that it finds itself in dire straits in spite of the reemergence of major asset bubbles across a wide swathe of assets. This includes by the way an astonishing revival of the bubble in real estate prices – see e.g. this 330 square foot shack in San Francisco, which recently sold for $765,000:

Yes, that tiny dark-brown thingy situated on a steep road sold for $765,000. The real estate bubble is back.

(Photo credit: SFARMLS)

Moreover, with the broad US money supply (TMS-2) having nearly doubled since 2008 and other major central banks inflating their money supply as well at breakneck speed, there has been more than enough “tinder” provided the world over to drive asset prices higher. This by the way makes a complete mockery of the constant refrain of central bankers that we are allegedly threatened by “deflation”. The inflationary effects of their monetary pumping are simply showing up in asset prices rather than consumer goods prices – ceteris paribus, a rapid inflation of the money supply always leads to prices rising somewhere in the economy.

Bubble Trouble

There is of course a “danger” that this asset price bubble will burst rather spectacularly once monetary inflation slows down sufficiently (it will probably never be reversed again in our lifetime, but a slowdown is already underway). In light of the current rare extremes in positioning, sentiment and leverage, the eventual denouement of the current bubble should be a real doozy. Note that in every respect one can possibly think of – with the sole exception of household debt – systemic leverage is at new all time highs (not only in absolute terms, but relative to everything, including the size of the known universe), and is likewise positively dwarfing anything that has occurred before.

Specifically relevant for financial markets are record highs in margin debt, record highs in hedge fund leverage, as well as record issuance of junk debt in recent years, which in turn has given rise to systemic leverage once again vastly increasing in the credit markets on the part of investors as well. To the latter point, note that financial engineering that is specifically aimed at enabling the taking of extremely leveraged positions is back with a vengeance as well – however, at the same time, the markets for the underlying debt instruments have become quite illiquid due to new banking regulations that hinder proprietary trading activities by banks (for a more detailed discussion of these topics see “A Dangerous Boom in Unsound Corporate Debt” and “Comforting Myths About High Yield Debt”).