You can actually put a date on the start of the "modern era” of the stock market — when the fundamental wisdom of Graham & Dodd was suddenly pushed aside, recalls Alan Newman, editor of CrossCurrents.
This modern era began on January 22, 1993 when State Street Global Advisors launched its first exchange traded fund. On this date, equity managers began to embraced a new paradigm, one that required no advice, and hence no blame, simply to oversee the acquisition of new shares.
Now called the SPDR S&P 500 (SPY), the ETF attempts to match the make up of the S&P 500 as closely as possible. The S&P 500 is a capitalization weighted index, thus the ETF “invests” far more in gigantic stocks such as Apple (AAPL) than in lower ranked constituents.
This results in a machined process as time goes by. With all else equal, more money must continue to chase the largest stocks ad infinitum. This process is then buttressed by mutual funds which feel constrained to begin chasing the “hot” stocks, hot only because index funds must chase them up — and the end result is an obscene cycle of madness.
“Investment” is no longer what it was and what it should be. The cycle of overvaluation drive onwards without any checks. This engine results in enormous dislocations.
We have written about the metamorphosis of the American stock market for years, claiming as loudly as we could about the kind of terminal dislocation that would eventually result and it is finally here.
The statistics are utterly bizarre. We have reached the Land of Oz and as far as we are concerned, this is the end of the road. This insanity cannot go on forever.
Does Wall Street see or even care what is happening? Mutual funds continue to spend down reserves in order to compete with ETFs, thus reinforcing the absurdity of this cycle, chasing the largest S&P constituents even higher.
Meanwhile, dollar trading volume (DTV) is soaring. DTV peaked at nearly $86 trillion in 2018 and is now on track to exceed $105 trillion this year. The numbers hare staggering. Considering that $32.6 trillion in stocks was traded in the tech mania, today’s estimate is absolutely mind blowing.
In addition, our net investment liquidity indicator is at a new record low, having plunged rapidly in the last four months. Total margin debt is now more than double what it was at the 2000 tech mania peak.
The sheer velocity at which the present mania is expanding is beyond scary. In our view, too many participants have been lured by this inane chase.
In 56 years of observation, we can say with absolutely no reservation that this is the riskiest environment we have ever seen. I emphatically believe that we are currently seeing the biggest bear trap in stock market history.