This commentary originally appeared at 8:50 a.m. EST on Feb. 13 on Real Money Pro -- for access to all of legendary hedge fund manager Doug Kass's strategies and commentaries, click here.
So far, the Cassandras' predictions of global collapse and failure have been proven false. Some of the most notorious bears are now turning bullish and revising their forecasts to the positive. Other "gloom and doom" holdouts are feeling the heat. We think that heat will intensify....I continue to have an optimistic outlook on the intermediate-term market, and I expect the S&P 500 to range in price between 1250 and 1550 for the full year. (That's 2:1 upside vs. downside.) That said, over the short term, the S&P 500 now appears fairly priced after January's rise, and I expect the index to range in price between 1250 and 1400 over the next few months. (That's 2:1 downside vs. upside.) Anecdotally (and not surprisingly), investor sentiment, which was so dismal at the start of 2012, has now begun to reverse quickly. Sideline cash has worked itself into the markets, as evidenced by the consistent rally in the first six weeks of the year, and, in turn, the business media are now populated by a chorus of talking heads that are singing "Everything Is Coming Up Roses." Most investor surveys indicate a substantial rise in bulls and decline in bears over the past few weeks: Investors Intelligence bulls (52%), the National Association of Active Investment Managers bulls (73%) and Consensus Inc. (stock traders) bulls (72%) are at the highest levels in 12 months, 10 months and 13 months, respectively. The CBOE 10-day put/call ratio is down to 0.84, or at the lowest reading since April 2011. Barron's' cover this past weekend contained the headline "Dow Jones 15,000," and even doomsayer Dr. Nouriel Roubini is now a market optimist. Chasing stocks (in either direction) is not my modus operandi, as my investment mantra is that price is what you pay but value is what you get. Even in a fairly priced market, however, in which reward and risk are generally in balance, one can still select long positions that can outperform the indices and shorts that will underperform the indices. Importantly, I am hopeful that, in a still volatile market, I can add alpha to my long and short investment positions by trading opportunistically (the cash register effect). For now, a 30% to 40% net long exposure for a hedge fund and a 50% exposure for a long-only investor fund seems appropriate.
Why have all the Cassandras been wrong? Because they ignored the power of central banks to cause credit spreads to narrow. The outcome is reflected in market movements and in certain sectors....
The European Central Bank's ingenious concept of a three-year, 1% loan via LTRO (long-term refinancing operation) worked. It was successful because it allowed the banks to buy their own debt at a higher yield than 1%, book the difference in yield as income, and mark up the value of their own bonds to par. That process functioned as a mechanical way for there to be an addition to the bank's capital. The ECB used a creative way to solve a portion of its eurozone and the Europe-wide banking crisis....We have replaced meltdown of the type we saw after Lehman/AIG with "melt-up" of the type we have been seeing since March 2009. We have shifted from collapsing leverage and failure at the institutional level to central bank intervention of unprecedented size.... We are going through huge transitional times. Never before have we seen coordinated, global central bank activity of this order or magnitude. By the end of this year, the G4 central banks will have expanded their balance sheets approximately threefold during the financial crisis. The negative and inflationary results of this activity may appear in the future. That remains to be seen. For the present, this is a very bullish construction for asset prices and equities in particular. -- David Kotok, Cumberland Advisors (Feb. 11, 2012)
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