Appearing on CNBC the other day we pointed out that this equity market rally is as unloved as any we could remember. So many analysts and commentators have constantly referred to this rally as liquidity driven and not earnings based, as soon as the liquidity is withdrawn so will the equity market gains. To reinforce this unloved point Financial Analysts Journal has done some analysis of asset allocation of the major investment classes: equities; bonds; property; and private equity. They calculated that the total size of the invested market at the end of 2012 was $90tn of which only 37% was invested in equities, the lowest figure in over half a century. Money has gone into equities in the past year, so that figure will have been raised, but not enough to change the statistic materially. For a comparison in 1999, at the height of the bull market that figure was 64%. This year we have referred on more than one occasion to the Merrill Lynch research that follows cash in fund manager’s portfolios this figure for another week stands at 5%, at the height of the bull market in 2007 it fell to 3.5%.
What is the reason for this lack of faith in equities? We think a lot of this goes back to psychological factors. Equity investors in the last 15 years have suffered two of the great bear markets of the last hundred years in 2001 and 2007. That has got to leave scars. It is true that some of the move out of equities has been caused by legislation changes to pensions, but this cannot account for the overall swing in sentiment.
A lot has been made of the lack of volatility in asset classes so far this year, leading to poor performance. Hedge funds in particular, whose job is supposed to be stock pickers, have had a particularly disappointing start to the year. Macro hedge funds overall, despite bond, equities and commodity prices all rising so far, have had negative returns. We have pointed out that markets tend to move in the direction that gives the most pain, for many managers this may well still be up. Trading volumes have been weak, probably caused as those who are underinvested wait for their moment and those who are invested happy to remain so.