Investor sentiment soared in May along with stock prices. According to a recent AAII survey, the percentage of bullish respondents rose to 37.7% versus 20.9% at the start of May. Bears dropped from nearly 60% at the start of the month down to 36.7%. These are big moves in a short period of time. Since sentiment is a contrary indicator we are not thrilled with such an about-face. But it does help to explain the sharp move higher in stock prices in May. And with current cash levels being so high, hopefully improving sentiment will help stock prices move even higher.
Housing contributes a significant portion to GDP, generally averaging 16-18%. This contribution is comprised of residential investment (3-5% of GDP) and housing services (11-12% of GDP). Residential investment includes new home construction, remodeling, manufactured homes and brokers’ fees. Housing services encompasses rent payments, utility bills and imputed rent/utility payments for homeowners.
Existing Home Sales. Inventories continue to rise steadily but remain very low versus history, so this is not a situation of distressed supply being dumped on the market. Supply is finally starting to outweigh demand which should increase transactions.
New Home Sales. While existing home sales remain weak, new home sales look quite different. There is evidence that home builders are trading off margins for sales volume in order to move inventory. A slowdown in construction volumes may also be helping the high levels of inventory. Sales prices continue to fall. Prices are down 2% over the past year and 10% from peak prices in October of 2022 (source: Bespoke Investment Group).
Conclusion. The real estate market is still frozen but at least it is thawing. The biggest culprit: current homeowners don’t want to trade in their 3% mortgage for a 7% mortgage. And then there’s sticker shock. Home prices have soared since Covid in many locations. The housing market needs lower mortgage rates to get back to normal. This is not in the cards in the near-term due to the bond market’s concerns about expected tariff-induced inflation and U.S. debt levels. Unfortunately, it may be a while before housing returns to being a real stimulus to GDP. As a result, we are avoiding most housing related stocks.
ELEVEN TRILLION REASONS TO STAY BULLISH
U.S. equities staged a strong recovery in May due to optimism surrounding easing tariff tensions. The S&P 500 rose 5.9%, its best May since 1990. NASDAQ rose 9.6% and the Dow 4.0%.
One of the reasons for the strong showing was a continuation of strong earnings reports. Q1 profits rose 13% compared to an expectation of only 7% growth at the end of March. Coming into earnings season people were thinking employment and the economy were slowing down, both of which would negatively impact earnings. That did not happen.
Another reason for the surge off the April low in share prices is that investors plowed money into stock ETFs. The funds to do so came from two sources: first, a move from mutual funds into ETFs which offer lower fees and certain tax advantages. Second, a drawdown of extraordinarily high cash balances. When stock market volatility soared to a five-year high in April, Vanguard’s S&P 500 ETF reported its highest monthly inflow ever. During that same period, Vanguard saw a 5:1 buy-to-sell ratio! Now that’s buying the dip! Investors bought stocks when they were on sale.
In a recent speech in Riyadh, Larry Fink, CEO of BlackRock, said there is approximately $11 trillion sitting in U.S. money-market funds just waiting for a permanent home (yes, that’s trillions with a ‘T’). Of course when there is uncertainty like now, you might expect a higher cash balance but this number is off the charts. This represents firepower for still higher stock prices.
We have mentioned before that investing is never a one-way street. There are valid concerns out there that bears like to emphasize: the fiscal deficit, inflation concerns, geopolitical uncertainty and monetary policy questions all continue to linger. And given the sharp lift off the April 8th low valuations are now a concern to many investors. On the surface, price-to-book and price-to-earnings ratios may look expensive but remember profitability levels are very high including returns on equity and capital, and profit margins.
Bull markets always need fuel to go higher which can come from earnings, ideas (AI) and available cash among other things. We will point to cash levels here. The bull market has eleven trillion reasons to keep going.