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Kass: Climbing a Wall of Complacency

  • Mr. Market has climbed a wall of complacency.
  • There is a strong consensus about nearly every asset class.
  • Historically stock markets are often unkind to consensus and to the changing of the Fed.
  • Reward vs. risk has deteriorated for the U.S. stock market
  • Beware: Risk happens fast.

It has been nearly five years since the Great Recession and the ensuing generational bottom in the U.S. stock market.

The S&P 500 has risen from 666 to almost 1850. At 58 months, the current cyclical bull market advance is the second longest on record and is quickly approaching the 60-month expansion that occurred from 1982 to 1987.

Nevertheless, aggressive monetary stimulation has arguably (ex-inventory accumulation) failed to ignite escape velocity for the domestic economy, and the U.S. is yet (in my view) in a position to forge a self-sustaining recovery.

The single most important reagent to higher stock prices last year has not been better corporate profits -- rather it has been an upward adjustment in P/E ratios.

In 2013 P/E ratios on the S&P 500 rose by 25% vs. the average annual increase in P/E ratios since 1990 of only 2% per year.

Twelve months ago, there were virtually no Wall Street strategists that anticipated such an acute upward adjustment in valuations. Today there are virtually no Wall Street strategists that are skeptical of current valuations.

In fact, bullish investor sentiment has been elevated to levels rarely seen. The lowly VIX is a sign of complacency, a wall that the market has climbed over the past 18 months. The market bears are ridiculed by the business media, and the short community is a species that is on the verge of extinction.

I would argue, therefore, that the market has climbed a wall of complacency.

There Isn't a 'Real Worry'

A growing consensus, exemplified by Morgan Stanley's chief U.S. strategist, Adam Parker (a high-profile and self-confident bear up until the middle of 2013) and others, is finding it difficult to conceive of any negatives or headwinds to more gains in the global markets in 2014. "The only thing people are worried about is that no one is worried about anything.... That isn't a real worry," wrote Adam recently.

I have learned over my stock market career that investors would far prefer to buy on price strength than on price weakness -- and that the crowd of investors typically outperforms the remnants as trends generally stay in place for extended periods of time.

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