They are playing the Chuck Prince Waltz: James Saft
Feb 6 (Reuters) – The music is playing again and the
pressure for investors to get out on the dance floor is, like in
By most measures financial conditions are as easy, as
relaxed, as at any time since the summer of 2007, meaning that
markets and investors simply aren’t demanding that much
compensation for taking on risk.
That does not in and of itself mean that a rout is coming,
nor does it mean that the rally can’t continue, but it does
imply we should be very cautious about the returns we’ll get
While the Federal Reserve, in creating very easy monetary
conditions, gets prime responsibility for the rally, credit a
big assist to human nature and incentives within financial
services, neither of which has changed much since 2007.
Put simply, if you are not doing deals and putting money to
work now, you are taking your job in your hands.
Charles O. Prince, then CEO of Citgroup, illustrated this
mindset most ably in July of 2007.
“When the music stops, in terms of liquidity, things will be
complicated. But as long as the music is playing, you’ve got to
get up and dance. We’re still dancing,” Prince, who later
stepped down amid massive losses at Citi, told the Financial
That was true then, and it is now, both in terms of the
complications to come and the imperative to dance now. Had
Prince been more conservative, much less been willing to stand
as one man against the tide of liquidity, he wouldn’t have been
the head of Citigroup. And it’s nice to be head of Citigroup, or
so they tell me.
And while there are investors out there, notably Dan Fuss of
Loomis, Sayles & Company, who are willing to speak plainly about how loose things are,
they are the exception and they are feeling the heat. The
capital markets are not designed to go home early when there is
an open bar still running.
By their nature, things in financial markets take on a
self-propelling momentum and, inevitably, go too far. Those are
two different things, however, and frankly, it is not clear that
we have yet gone too far. We may well have gone beyond
reasonable valuations for some assets, but that has been true
well below the peak many times before.
According to the Financial Stress Index, an amalgam of 18
indicators monitored by the St Louis Federal Reserve, markets
are now as blissed out as they have been at any time since
August of 2007, just after Prince wrote his epitaph. And while
current readings are less relaxed and easy than they were at the
height of the boom in 2005 and 2006, they are about on par with
the range the market enjoyed during much of the late 1990s,
another boom period for markets.
WARNING: THIS TIME IS DIFFERENT
Unlike 2007 and 1999 there isn’t this time an obvious bubble
in a particular asset. We have nothing analogous to dotcom
stocks or housing plays. While portions of the bond market are
very clearly out of whack – notably high yield debt, financial
markets generally seem pleasantly anesthetized rather than
There are plenty of candidates for the locus of a bubble -
the great energy renaissance in the U.S. to name two – but
nothing has emerged as a general mania.
Still, the bullishness across markets is striking, and
should be sobering. Allocations to stock markets among
individual investors have risen markedly, according to a survey
by the American Association of Individual Investors, and cash
levels in typical portfolios are about a quarter below their
The same thing is true among professional investment
managers, according to a regular survey by the National
Association of Active Investment Managers. NAAIM data show
managers as bullish as at any time since March of 2007, and
other than that month, more bullish than at any time since the
survey began in 2006.
The main underpinning of all of this is the policy of
central banks. The Fed and many others are purchasing assets,
and the ECB has written us all disaster insurance against the
break-up of the euro. It remains to be seen how effective this
will ultimately be in the real economy, though there are bright
spots like housing, but it is working very well in financial
None of this means we won’t get a correction, but for this
bull market to turn bear we probably need an outside shock,
always a possibility but a tough thing to base strategy on. It
also doesn’t mean we will get good returns out of a typical
mixed portfolio of stocks and bonds, especially on a three of
five year view.
Call it a cynical rally but for now, at least, so long as
the Fed liquidity flows, the music and dancing don’t look ready
(At the time of publication James Saft did not own any direct
investments in securities mentioned in this article. He may be
an owner indirectly as an investor in a fund. You can email him
at firstname.lastname@example.org and find more columns atblogs.reuters.com/james-saft)