Stock ETFs Are Booming As Bearish Warnings Spike

Investors are losing the ability to withstand a market boom that many on Wall Street believe is doomed.

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In April, more than $12.6 billion was transferred to equities exchange-traded funds, the highest inflow since January and more than double the rate in February and March. Money is flowing into stocks at the same rate that it is being withdrawn from cash: ultra-short duration ETFs are on course for their first monthly outflow since January, according to data. 

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Spigots are reopening amid widespread suspicion among the punditry elite. Investors have recently been exposed to bleak news in both the Federal Reserve Beige Book report and the Philadelphia Fed's manufacturing index, adding to the growing list of possible roadblocks. 

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While profits have been generally upbeat, reports ranging from Fastenal Co. to Ally Financial Inc. and even Tesla Inc. has shown that the US consumer is starting to crack. Meanwhile, the S&P 500 is approaching a level where prior attempts to break out of its sideways march have failed.

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Is there any reason to be optimistic? Yes, mostly in terms of how pervasive the bearishness continues — according to certain measurements, it's the most intense since 2009. Despite a deterioration in risk appetite as a result of aggressive Fed tightening and financial sector turbulence, the S&P 500 has yet to return to last year's lows.

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"We haven't had a new low since October, people aren't hearing artillery shells landing anymore, so they're peeking heads out of foxholes," George Pearkes, global macro strategist at Bespoke Investment Group, said. "It may appear absurd to link big capital flows to something as basic as not witnessing a dip in some time. But, even if it is simplistic and reductive, it is how we perceive flows and feeling acting in practice."

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The S&P 500 concluded the week slightly down, bringing the year's gain to more than 7.5%. Meanwhile, bond market volatility remained low — the 10-year Treasury yield rose just four basis points last week, the lowest jump since before Silicon Valley Bank's unexpected failure last month.

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A similar dynamic prevailed in credit, where, despite certain warning lights, there are minimal symptoms of surface-level stress. Even as rating agencies downgrade corporate bonds to junk status at the fastest pace since the pandemic's onset in 2020, both investment-grade and high-yield spreads remain considerably below their summer highs.

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"There's a fear of missing out on an upside move. "People are also putting money into it because some believe we can have a no- or soft-landing scenario, which I disagree with.”Charles Campbell stated, managing director and trading desk expert at Roth MKM.

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Lines on charts may be the closest challenge to stock market believers' optimism that the surge will continue. The S&P 500 has risen four of the previous six weeks to slightly over 4,130, putting it within a hundred points of levels where rallies reversed themselves in February, November, and September. The index isn't inexpensive at more than 18 times annual earnings, especially because analysts predict profits to dip in 2023.

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While economic data remains uneven, worry over a credit shortage caused by March's bank crisis is hard to escape. The Fed's Beige Book study of regional business contacts showed no change in economic activity and highlighted that some districts indicated banks tightened lending conditions amid rising uncertainty and liquidity worries. The Philadelphia Fed manufacturing index plummeted to negative 31.3, a level that has often foreshadowed recessions.

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"We still see a weakening environment for risk assets and would be playing defense," said Sameer Samana, senior global market strategist at Wells Fargo Investment Institute, who expects the Fed to maintain its inflation-fighting approach.   

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"Stocks have gotten close to the upper end." 

inside their trading range. We see this divergence as an opportunity to reduce further risk."

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A few earnings reports also caused pause, even though most firms managed to above analyst expectations, as they often do. Fastenal, a construction supplies provider, reported that revenue growth in March was the worst since June 2021. Ally Financial's earnings fell as it offered fewer vehicle loans and set aside more reserves to cover consumer defaults. Tesla fell 11% this week after CEO Elon Musk stated that he will continue to decrease costs to stimulate demand.

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Consistent with increased risk appetites among retail ETF buyers, Investors Intelligence's bull/bear ratio surged for a fourth week to its highest level since January 2022 - the month that marked the start of the current bear market. The index reached 1.0 in October, close to its pre-crisis low, just as markets began their current rise.

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"In late October, we concluded that sentiment was so bearish that it had to be bullish," stated Yardeni Research Inc. founder Ed Yardeni. "Sentiment may not be bullish enough to work as a contrary indicator for the bears, nor bearish enough to work for the bulls," he stated. 

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"A tug-of-war may ensue until the recession and debt-ceiling debates are resolved, most likely in early June." The present bull market, in our judgment, will thereafter restart."

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