As the Dow Jones Industrial Average closes in on 20,000, analysts are talking about animal spirits — specifically, bullish ones — returning to Wall Street. Are your clients clamoring to charge into the market? What do you tell them?
First, let's talk about the recent outburst of animal spirits, which is a marked contrast from what some have called
the most hated bull market in history. The Dow has had 25 record highs this year, and 16 since the election. The past six days have featured six record highs in a row, the most since March 2013, according to Howard Silverblatt, senior index analyst for S&P Dow Jones indexes. That's pretty perky for a year that had the worst first week of January in history.
Then there's the matter of great big round numbers, something the press has an affection for. Oddly, the press has the most affection for big round numbers in the Dow Jones Industrial Average, rather than, say, the Standard & Poor's 500 or the Nasdaq. And that's mainly because most people follow the Dow, even though it's a peculiar market measure, to say the least.
“It's nice — it's not a bad thing, but it doesn't mean a lot fundamentally or technically,” said Jeff Hirsch, editor-in-chief of
The Stock Trader's Almanac. “It's not incredibly indicative of anything other than the fact that we're in a pretty robust market now.”
But big round numbers do mean a lot, at least psychologically.
'GIGANTIC MAGNET'
“They're a bit like rusty doors — it takes several pushes before busting through them,” said Sam Stovall, chief investment strategist for CFRA. “They serve as a gigantic magnet to bring the market to that level.”
The market magnet has even begun to pull in
long-dormant mutual fund investors. Domestic stock funds have seen an estimated net inflow of $35.8 billion the past four weeks, according to the Investment Company Institute, the funds' trade group. That's more than any month since the ICI started tracking combined ETF and open-end inflows in January 2014. (Investors have actually yanked $109 billion from U.S. stock funds since then.)
“Advisers tell me that their clients are saying to them, 'Take me out of munis and into small-cap stocks,” Mr. Stovall said. “That's not a good sign.”
Historically, once the big round number has been breached, it tends to take a breather — a bit like how you feel after giving a performance or winning a race.
“The question is whether it will happen this year,” Mr. Stovall said. Given that taxes are likely to be lower next year, he doubts individuals will sell before Dec. 31.
“In two separate meetings the same day, I had one client ask if we shouldn't be adding to stocks and another where someone said, 'Shouldn't we be getting out of stocks?'” said Mark Bass of Pennington, Bass & Associates.
The best way to deal with overeager — or overfearful — clients is to call them before they call you, said Harold Evensky, chairman of Evensky & Katz.
“The only calls we got were right after the election, when people wanted us to take them out of the market and put them in cash. We managed to talk them out of that.”
CRASH AHEAD?
Clients also want to know if the big run-up means there will be a crash.
“We say we have no earthly idea and that there could be a significant correction,” Mr. Evensky said. “What we'll do is rebalance then.”
Mr. Bass noted that the stock market did seem to be ahead of itself, given the relationship of price to earnings.
“Even though it appears that corporate earnings have turned a corner, they still have a way to go” before stocks seem cheap, Mr. Bass said.
Mr. Evensky said if a client is really nervous, and their long-term goals would support a lower exposure to stocks, they would consider permanently reducing a client's exposure to stocks to get them a better night's sleep. But close monitoring of all clients is important.
“We review client portfolios every few weeks, and have been pretty aggressively rebalancing along the way,” he said.
For clients who are taking withdrawals or required minimum distributions from retirement plans, U.S. stocks are a good source of funds, Mr. Bass said. It's best to take funds from something that has been soaring, like U.S. stocks, than something that has been falling, like bonds. Nevertheless, it can be a difficult conversation, he said.
“It's a hard thing still for people emotionally to do that,” Mr. Bass said. “They say, 'Why take out from something that has done so well?'”
Advisers should be aware that a massive rally — with or without a big round number attached — is an emotional trigger point, said Brad Klontz, partner of Occidental Asset Management.
“It's a good time to remind people about recency bias," he said. "The temptation is to chase those gains, but you should remind them that it hurts so much more to lose money than to lose out on making money.”
