Welcome to the “vacuum” market

An antidote to Albert Edwards perhaps?

On Thursday, Tobias Levkovich, US strategist at Citi, brought us the “Invested Bubble.”

The equity markets are stuck in a vacuum. In deep contrast to the stock market bubble of the late 1990s when the market levitated on irrational exuberance that generated a tech bubble, the current hammering of financial stocks beyond some more balanced scope suggests that a vacuum is being created where all the investment air is being sucked out of equities.

Talented investors have been left in the trash heap of markets. In the 1998-99 bubble period, those who considered valuation as a meaningful factor in their investment process found the markets to be considerably out of touch with historical reality. Such intelligence was ridiculed as being old-fashioned and such people were seen to be “simply not getting the power of the Internet.” To some extent, inverse market pressures in the current “vacuum” market are suggesting (incorrectly, in our view) that there is no inherent or intrinsic value in many of the “franchise” financial or consumer names.

Trading trumps investing. The focus on trading for short periods of time has driven many stocks down to attractive investment levels, but investing for 12- 24 months has become almost an anachronism, leaving much value on the table with few takers — a veritable “baby with the bathwater effect.” In this context, the myopic time horizon pendulum has swung too far, but there is no clear catalyst for change.

Financials are needed for the broad market to catch a real bid. It seems difficult to imagine that equity markets will trade higher without participation of the financial names, given the close connection between capital markets and capital market-sensitive stocks. Excessive underperformance argues for some mean reversion, but investors appear to need to feel pain elsewhere in the market to compel a mindset change.

Excessive tech growth capped the bubble; home price stabilization could turn off the vacuum. Overly aggressive tech spending marked the end of the tech bubble. A number of factors such as the collapse in housing starts, trend line home prices and affordability indices argue that the residential market is close to finding some floor, which would be significant for Financials caught in the implications of the housing bust.

Here is Levkovich’s key housing chart, from Haver Analytics. Equity markets in both London and Wall Street were in exuberant mood on Thursday (FTSE 100 up 3 per cent at 3pm BST), but in terms of housing activity maybe we have a little further to go…