The market is supposed to know best. Right now, though, it isn’t sure exactly what it knows.
Masanari Takada, a cross-asset strategist at Nomura Securities in Tokyo, has a nice analogy to help explain the prevailing mood. He says investors are behaving like drivers who want to simultaneously stamp on both the accelerator and the brake.
That is quite apt. Confronted by radical uncertainty about how – and when – economies will emerge from lockdown, investors are going to extremes, bidding up the price of both aggressive risk-on and conservative risk-off investments.
On Tuesday, for instance, the tech-heavy Nasdaq Composite Index surged to its highest closing level on record, propelled by swelling optimism about the outlook for online commerce.
A day later, gold – the traditional haven for rattled investors – touched its highest point in eight years on mounting fears of economic distress ahead.
The simultaneous boom in both gold and tech stocks may not make a lot of sense, but it sums up the jittery, excitable nature of a market that has no clear sense of what is going to happen next. Investors don’t want to be left out if more government stimulus continues to drive stock prices even higher. On the other hand, they fear what might happen if new outbreaks of the novel coronavirus hobble the economy for months to come.
In this unsettled environment, some odd propositions can begin to look attractive. Consider the crowd who lined up this week to buy €2-billion ($3.1-billion) in Austrian government bonds that won’t mature for 100 years. The proud owners of the new bonds will earn all of 0.88 per cent a year for a century to come.
Why would anyone sign up for such a miserable deal? In part, it is because most government bonds in Europe are now paying negative yields – that is, they are charging borrowers for the privilege of saving. By comparison, a yield of 0.88 per cent may be paltry, but at least it is positive.
The real appeal of the new bonds, though, probably lies in their ability to serve as a hedge against more bad times ahead. If the economic picture darkens, and interest rates fall even deeper into the hole, the price of the 100-year bonds should soar.
That is because bond prices move in the opposite direction to interest rates. The further away a bond’s maturity date lies, the more sensitive its price tends to be to shifts in interest rates, everything else being equal.
Seen in that light, a 100-year bond is a fine way to hedge against the possibility of more economic deterioration ahead. In fact, the unexpected popularity of a century bond that pays less than 1 per cent a year may be the perfect demonstration of just how low many investors’ economic expectations have now sunk.
Here is the strange thing, though: You won’t see any evidence of that pessimism if you turn your gaze to another part of the market – the part that wants to day-trade stocks in search of quick profits.
Dave Portnoy, founder of the pop-culture website Barstool Sports, has become the voice – the very loud voice – of the rapidly growing “stocks are easy” set.
His online ramblings – like his performance a week ago when he shook a bag of Scrabble tiles to decide which stock to buy next – can be interpreted as a brilliant satire of the typical know-it-all market pundit. But a big part of his internet audience seems to be taking his chest-beating antics at face value.
And why not? Mr. Portnoy may deserve snickers for preaching that “stocks only go up,” but more buttoned-down money managers seem just as convinced of an equally dubious proposition – that tech stocks only go up.
Thanks to their enthusiasm, the Nasdaq index has jumped 35 per cent since the start of April. Meanwhile, prices of tech companies have swelled to the point where the sector now makes up 27 per cent of the broad S&P 500 benchmark, the highest level on record, according to investing website Barron’s.
It is hard to square the optimism behind the tech surge with the pessimism behind the sudden popularity of 100-year bonds. In fact, it makes sense only if you assume the market is baffled. If investors feel torn between expecting the best and the worst outcomes, it becomes tempting to bid up extreme bets at both ends of the spectrum.
The best place for most investors to be in this bifurcated market may be in the middle, away from both red-hot tech stocks and low-yielding bonds. At a time when extreme bets are in vogue, many middle-of-the-road sectors look like decent bets.
Consider, for instance, U.S. bank stocks. They have been hammered by falling interest rates, but still have both heft and the ability to increase fees in other parts of their operations.
GMO LLC, the Boston money manager, recently argued there is potential for “enormous returns” in the shares of both U.S. Bancorp and Wells Fargo & Co. Despite the announcement this week that the Federal Reserve will temporarily cap bank dividends and ban share buybacks, U.S. banks still hold appeal as a low-cost way to bet on an eventual economic recovery.
Canadian real estate investment trusts also seem reasonably priced. A report this week from Canadian Imperial Bank of Commerce recommended several that specialize in residential or industrial properties. Among the top names: InterRent REIT, Canadian Apartment Properties REIT and Granite REIT.
Neither banks nor REITs are exciting. But in a market focused on extreme bets, middle-of-the-road propositions like these deserve more attention than they are getting.
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