Projected New Highs In Market In Months, But Low Short Interest Is A Concern

Projected New Highs In Market In Months, But Low Short Interest Is A Concern
Birinyi Sees S&P 500 at 1,900 by July as Shorts Miss Drop

By Nick Taborek and Callie Bost  

U.S. stocks have too much momentum to make betting against the Standard & Poor's 500 Index (SPX) (SPY) a winning strategy and the gauge will probably reach 1,900 next quarter, according to money manager Laszlo Birinyi.

Birinyi, the founder of Birinyi Associates Inc. and one of the first analysts to advise clients to buy when stocks were bottoming after the 2008 financial crisis, said in a phone interview Feb. 7 that the benchmark gauge for U.S. equities will increase almost 6 percent by July.  It fell 5.8 percent in the three weeks starting Jan. 15, losses he said signal healthy skepticism that set the stage for more gains.
"I don't like when the market just shrugs these things off," Birinyi said from Westport, Connecticut.  "It's OK to just stop and take a deep breath. The market should have some sort of a negative reaction when you have problems in Turkey and Argentina.  That didn't make me uncomfortable."

Weakening currencies from Argentina to Turkey, cuts to Federal Reserve stimulus and slower economic growth in the U.S. and China sent the S&P 500 to its worst performance to start a year since 2010.  While almost $3 trillion was erased from share prices globally, the retreat failed to stir bearish speculators, who left bets against S&P 500 companies near the lowest level on record, data compiled by Bloomberg starting in 2006 show.  The gauge rose 0.2 percent to 1,799.84 today.

Lesson Learned

"Short sellers have probably learned their lesson" after a year when 460 of 500 companies in the benchmark index climbed, the most since at least 1990, Birinyi said.  At the same time, "there's nothing that you can say is a bargain or a real value" if you're a bull, he said.  "You have situations on a day-to-day basis that will give you opportunities, and that's what we're trying to take advantage of."
In a short sale, a trader borrows stock and sells it, hoping to profit by replacing it after a decline.

Shares rose last week as reports suggested the U.S. economy may weather Fed stimulus reductions. The S&P 500 snapped the longest weekly losing streak since May 2012.  The gauge rallied 2.6 percent in the two days last week, the most since Oct. 11, to push its price-earnings ratio to 16.6.  The five-year average is 15.5, according to data compiled by Bloomberg.

The 70-year-old investor has defied market pessimists throughout the five-year bull market that sent the S&P 500 up 166 percent, writing in December 2008 that stocks were near a bottom.  In September 2011, he said U.S. companies were earning too much to be dragged lower by Greece's debt crisis.  The index is up 56 percent since then.  A year later, with the gauge at about 1,400, he said comparisons with prior bull markets suggested it could reach 1,500 in four months.  It took five.

Shorts Retreat

Shares borrowed and sold short total 2.29 percent of S&P 500 outstanding stock, down from 5.13 percent in 2008, according to data compiled by Bloomberg and London-based Markit Ltd. Fewer investors were positioned to take advantage of the selloff in the last three weeks because the S&P 500's 30 percent rally last year burned short sellers, said Oliver Pursche, a Suffern, New York-based money manager at Gary Goldberg Financial Services.

"Do I really want to short in a market where the Fed is still active, where earnings are still coming in strong and the overall economic environment continues to strengthen and is fairly positive?" Pursche said in a Feb. 6 phone interview.  "Being broadly and long-term short is very expensive and I think at this point in the cycle you have a lot of shorts out of the market."

Tesla, Zillow

A Goldman Sachs Group Inc. index of the most-shorted companies gained 47 percent last year as companies from Tesla Motors Inc. (TSLA) to Zillow Inc. (Z) rallied.  Tesla, billionaire Elon Musk's electric vehicle company, began 2013 with 33 percent of its shares sold short.  The stock rallied 451 percent through Feb. 7 as bearish bets tumbled to 18 percent.

Zillow, which operates a real estate website, has rallied 209 percent since the start of 2013, as short interest fell to 24 percent of free float, from 34 percent.

Hedge funds have trimmed their short positions, according to ISI Group LLC.  The ISI index of hedge fund long versus short bets rose to 51.9 on Feb. 5, from 48.4 in the week ending Oct. 9, data from the New York-based research firm show.  As ISI's index increases, it indicates managers are growing more bullish on equities.  The measure dropped less than 1 percent in the past month.

'More Wary'

"Even people who want to short the market are feeling a little more wary," Joseph Quinlan, chief market strategist at U.S. Trust Bank of America Private Wealth Management, which oversees $330 billion, said in a phone interview from New York.  "They don't want to bet against an economy growing 3 percent into this year.  If you saw more short interest, that's a big bet that things are going to get worse before they get better."

Stocks have tumbled in the past following declines in short interest.  In 2011, bearish bets on S&P 500 stocks slid 20 percent to 2.71 percent of shares by July 1, according to data compiled by Markit and Bloomberg . The benchmark fell 17 percent between July 7 and Aug. 8 as S&P stripped the U.S. of its AAA credit rating and Europe's debt crisis deepened.  Short interest climbed to 3.15 percent of S&P 500 shares by December that year as the gauge rose 11 percent from the low.  The index rose 13 percent in 2012.

'Something Else'

"It's fair to say nobody's betting on the market going down in a big way, but I'm not sure what the predictive power of that is," Brad McMillan, chief investment officer for Waltham, Massachusetts-based Commonwealth Financial Network, said in a Feb. 6 phone interview.  His firm has more than $71 billion under management.  "When everybody expects something to happen, something else happens."

While the S&P 500's 5.8 percent decline between Jan. 15 and Feb. 3 doesn't suggest the advance is over, Birinyi said it means the calm that has blanketed the market for more than a year is lifting.  The CBOE Volatility Index (VIX) (VXX), a measure of investor concern that averaged 14.2 percent last year, the lowest since 2006, had its biggest January jump on record.  The S&P 500 has gained or lost an average of 0.71 percent a day in 2014, compared with 0.51 percent in the fourth quarter, according to data compiled by Bloomberg.

"We've had a little bit of a detour and the road isn't as smooth as it has been, but we still think the rally is intact," Birinyi said.

The S&P 500 had fallen 5 percent or more 18 times previously since the start of the rally in March 2009, recovering the losses within about two months on average, data compiled by Bloomberg and Bespoke Investment Group show. To Birinyi, the latest retreat will be no different, though he said investors will have to shift their strategies to succeed in 2014.

"This market is not going to be like last year, which was a very steady consistent market without a whole lot of volatility," he said. "We're seeing tremendous stock market volatility, even more than market volatility. It's a market where you really have to be alert and be willing to trade."
 

Courtesy of Bloomberg.com