Momentum is a Self-Fulfilling Prophesy
Today’s big question for investors is, “what’s in a NAAIM?” NAAIM is the National Association of Active Investment Managers, and for decades they have published a weekly survey of their members. That survey seeks to know not what those investors are thinking or saying, but what they are doing. The survey is a single question: what is your current “exposure” to the U.S. stock market? By exposure, we mean how much of their typical portfolio is invested in stocks.
The chart above shows the NAAIM index over the past 12 months, with the S&P 500 ETF (SPY) tracked alongside. Those with a keen eye for this stuff will notice that the NAAIM index actually peeked its head above 100% last June. In fact, unlike in my own investment works, some of these active managers will use significant leverage (borrowing against the assets they have invested, as people often do when buying a house) in their portfolios, which allows them to take on up to $2 of market exposure for every $1 of assets they have. On the flip side, they can go up to 200% short, whereby their investment portfolio would likely lose $2 for every dollar the stock market went up, and vice-versa.
Here is that same index and the S&P 500 ETF for the full year 2017, the period just before the one shown in the chart above.
Taken together, here is what I see: in 2017, as with much of the past 10 years, active investment managers’ equity exposure fluctuates frequently. They get aggressive, then pull back and on and on it goes. But the stock market keeps moving higher, without paying much attention to what NAAIM members are doing in the aggregate.
But the past 12 months (first chart) have been different. Very different. The NAAIM index and the S&P 500 index have moved up and down in lock-step. What that means to me is that active investors (NAAIM members and otherwise) are having a tremendous contribution to recent market volatility. I have written to you about this for a while, but this is probably the most relevant picture to show it.
Why does this matter? Because I see it as a key point of evidence that the stock market’s moves are increasingly about momentum, reactions to news, technical signals and other non-fundamental information. To put it bluntly, the market is going up and down because…investors are pushing it up and down. It’s far more emotional than traditional.
This itself is not a new revelation. But what investors must understand is that their hard-earned wealth is in the hands of a completely different group of players than in decades past. That has helped to push the bull market way beyond what many including myself thought possible. But it also sets many investors up to be sucker-punched the next time that “stocks of good companies” and “great long-term investments” get thrown out with the bath water, so to speak.
Please don’t end up in that group. Understand that investing is as helpful to your retirement plans as it ever was, but the way that process occurs has changed.