Chasing returns

I noted in a blog recently that the problem with a high commitment to stocks, equity ETF’s or mutual funds by retail investors is that they are traditionally wrong at market extremes. In other words, retail investors tend to hold more stocks at the top, and hold less stocks at the bottom. Retail investors are currently holding too much of their portfolios in stocks. You can see this on the chart below, courtesy of I’ve circled areas of extreme levels for stock allocation going back to 1999. The bottom of the chart shows us periods where stocks were “under-owned” by retail investors. Note how those low levels of stock ownership line up nicely with market bottoms- which I’ve marked on the S&P500 line with arrows. The top levels of stock ownership were also circled on the chart. Note how market tops – both minor tops and major tops – tend to coincide with retail investors loving stocks – also marked with arrows. As you will note on the chart, the level of total stock ownership by retail investors is just getting into the danger zone. Keep in mind that this is a big-picture signal. As such, it doesn’t tend to give you precise buy or sell date signals. Selling or buying decisions on these signals should be refined by traditional technical analysis signals.
Asset allocation to equities for retail investors showing levels of stock ownership relative to S&P500 levels - overweight at market tops and underweight at bottoms

One of the reasons behind retail investors enthusiasm towards equity ownership is the “NOA” theory. That is, with interest rates being so low, investors have No Other Alternative than to invest in risky assets (stocks, ETF’s, mutual funds). This is a flawed strategy that retail investors (and their advisors) often play out when interest rates are “too low” on fixed income securities. They don’t like the 2% yield on short term GIC’s or bonds, so they justify buying growth or dividend paying stocks or related products instead. A hot stock market entices investors to move out of low yielding bonds and move into the stock market in search of higher returns. Investors become so fixated on chasing a higher return that they don’t think about the increased risk to their portfolio inherent in doing this. The “Great Recession” of 2008/2009 woke a few investors and their advisors up to the realities of replacing low risk securities with equities in order to chase returns.


I believe that this particular mindset probably doesn’t apply to the readers of this blog. I believe that you, as a reader of this blog, have a very strong sense of market risk, and an equally keen desire to avoid it. As such, you read this blog – and do your own research – in order to sidestep the crowd when things get frothy.

Given the frothy behavior by retail investors at this point, one might make a greater case than normal to “Sell in May and go away” in the coming weeks.


  • Keith – with today’s market rally after the French elections, it seems we may have more upside in the markets until the next Fed meeting or into early May – one final pop – perhaps a double top for the S&P? Seasonally May-June markets usually suffer some type of correction. Would you recommend getting out and getting back in upon seeing a bottom in the next few months? Thanks.

    • Hi “X”
      I wouldn’t argue with you that the market could easily put in a double top–we may even see a temporary break through the highs. But my thoughts are that the good times will not last too much higher. I have begun selling a little at a time. We are now about 20% cash. We will get to 30% in the coming weeks.
      Yes, I do think there is potential for a last run – but I dont like the risk/reward profile at this stage.
      Stay tuned for a reading of my “Bear-o’meter” next week for the macro risk/reward reading of the markets.

      • Thanks Keith for your reply. I think you’re right – it’s best to be prudent at this stage vs. trying to catch the possible last little bit higher. I look forward to reading your next “Bear-o’meter” article!

  • Keith , would you ever go 100 % cash ? or is it against your fund mandate ?
    If yes , when ?

    • Mike we can go 100% cash–our IPS (Investment Policy Statement) states we have that allocation potential. We have gone 50% before. I think the only situation we would go 100% cash is if the major sell rule (weekly chart lower low, 200 day MA breached) stayed in place for an extended period of time. Truthfully–Instead of going all cash, we would likely keep a few stocks and offset with single inverse ETF’s to create an artificially all-cash portfolio. I have discussed this technique in another blog –I can cover it again some time. It does involve a bit of calculation of the beta profiles of existing positions to correctly estimate the inverse position needed. We’ve used single (non leveraged) inverse ETF’s in this manner before–that is, to offset existing stock positions.

    • Sort of, Mike.
      the idea is that you if still like certain stocks–for example, we like a couple of our tech stocks for the long run like GOOGLE and tolerate when that stock (for example) pulls back 10%. But its even better when you can keep your stock, and offset its potential negativity with an inverse ETF. So you continue to own the stock, and the worst that can happen (assuming it moves in tandem with the market) is you guess wrong, the market goes up, and you miss gains because you offset the gain on your stock via the inverse ETF as it moves down (opposite to the market). But– if the market falls, you offset the downside of the stock. the strategy creates a neutral environment. You cant gain much, or lose too much, assuming your stock is beta 1.0 (moves with market)– but it can give you a bit of peace if you are worried about the market temporarily.
      Interestingly, market neutral hedge funds exist by shorting the same number of stocks within the same industry as a number of stocks they are long. The theory is that if they long the “better” stocks in the same sector, then short the “worst” stocks in that sector, they still make money whether markets go up or down. We don’t do this – but Brooke Thackray sometimes does that type of move within his HAC fund.


    • Not sure of the ticker of the 10 year ETF but I am looking at TLT at $120-ish. I am also looking at the BMO mid-term corporate if it drops a bit – say into high $14’s.

      I am thinking that bonds will be a safe bet this summer–risk off trades are good in correcting stock markets…

  • Hi Keith,
    Can you please specify the BMO mid term product you mentioned: Is the fund ticker ZMU, ZIC, ZCM or something entirely different?

    • I like the BMO mid term US bond ETF ZMU. I don’t own it yet–I am looking at it as a potential candidate for a summer play. I dont know if it will have much upside, but I figure its downside is probably limited to its prior lows of $14.65…. so the closer it is to that, the lower my risk.

  • Keith, I think that WallStreet will start to put their shorts on back on our big banks, after what happenned yesterday to mortgage lenders. Our big banks may be still profitable and relatively safe investments, but I think that story will sell. I will always recall hard much they fell after the oil crash, so the way I look at it is… now that for the first time, there are facts that fraud happenned at the biggest alt-a lender, a bank run, plus government tightening, I can’t see how the sector will get any positive momentum back.

    Could you please keep an eye on $ZEB.TO and when you think the crack is clear, to let us know?

    If I’m starting to plan to exit, I’m sure many canadian investors are, and a sell-off will accelerate fast when it starts.


    • Matt
      In the long run, CDN banks are fine. But in the nearterm, $27-$28 looks like support. Its playing in that area now. Should it crack, and that crack last 3 days below $27-ish–that’s your exit signal.
      They will eventually recover, but it could be enough of a correction to be worthy of a trade out, should support fail.


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