The US stock market, now joined by most of the rest of the world, continues its one way march higher. Those who focus on fundamentals, economic or stock market, have been scratching their heads all year for an explanation, but the reality is that there is no fundamental reason for the 20%+ run this year. Earnings growth has been lackluster at best and better economic growth always seems just over the horizon. Sentiment has been bullish all year and has shifted to another plane recently; the search for returns has gotten crazy again and now extends to NFL running backs, the digital currency of choice among drug dealers and in a bit of deja vu, unprofitable internet companies. Contrarians are being reminded – daily – that the crowd can be right for a long time or to paraphrase Keynes, the market can stay irrational longer than a Tesla/Netflix/Amazon short seller can stay solvent or sane.

The American Association of Individual Investors’ most recent poll showed a whopping 17.6% of respondents as willing to wear the bear mantle. Almost half, 49.2%, count themselves as bullish and I’m sure absolutely certain they can get out ahead of the rest of the crowd before the Fed turns off the free money spigot. Barron’s big money poll of “professional” investors recently showed a paltry 8% who were willing to buck the bullish consensus. Consensus, Inc. bullish sentiment for stocks sits at 56% while  a mere 28% are willing to admit to an affinity for bonds, which in case you missed it among the rash of new highs in the stock market, have quietly put on a pretty nice rally over the last couple of months. The 7-10 year Treasury ETF (IEF) is up almost 5% and the 20+ year Treasury ETF (TLT) is up nearly 8% since early September. Not bad for something every talking head on CNBC has been panning the entire time.

Another sign of exuberance, irrational or not, is the most recent reading on margin debt. The NYSE reported a record $401 billion in margin debt for the month of September. QE may not be doing much for the real economy but it sure seems to have stimulated the speculative impulse. High margin debt levels aren’t much good for predicting the market as the balances are highly correlated but only coincident with stock prices. Margin debt rises when the market rises and falls when stock prices fall; causation is impossible to determine. What record margin debt does tell us is that investors are pretty complacent and willing to speculate. It also tells us that when the inevitable correction comes it will likely be more rapid and steep than it would be without all those extra shares on sale when the margin calls come.

The economic fundamentals continue to provide warning after warning that the bulls take for mere confirmation that Uncle Ben will keep the QE flowing. Anything that makes it appear that the Fed will keep up its bond and mortgage buying binge – bad news is good news – is seen as just another justification to kite stocks a bit higher. It is this belief in QE and its apparent effect on stock prices that is the be all, end all for the bulls. The equation appears simple for anyone who wants to cash in on the Fed’s largesse. Buy stocks, on margin if possible, and keep buying them until the Fed stops QE. That’s it. That’s all you have to know and the fact that every other bull knows it isn’t a problem. One can’t help but be reminded of Chuck Prince’s now infamous statement that as long as the music is playing you have to get up and dance. Chuck did the two step into retirement when he couldn’t find a seat in the sub prime game of musical chairs. I suspect that a lot of the people now jumping back in the market won’t have that option when this Wall Street party ends – as they all do.

So here’s a little something for the bulls to consider. What if the stock market party ends for some reason other than the end of QE? What if the bell everyone expects to ring at the top doesn’t ring? What if QE is the economic failure it appears to be and the economy slips into recession? What will the Fed do then? More QE? If it didn’t work the first four times, why should we expect it to work the fifth or sixth or seventh? What if the shock comes from somewhere outside the Marriner Eccles building? Just to provide one timely example, what if the shock comes from fiscal policy? The two political parties will be meeting in a matter of weeks to discuss – again – the budget mess. Grand bargain? The only grand bargain I see that can be had is one that includes spending cuts and tax hikes, neither of which is known for its stimulative properties. Could a grand bargain be the thing that finally tips our fragile economy into a contraction? I’m sure that would keep the QE faucet open but would it really matter?

I don’t know what will end this bull run but I find it hard to believe that the only thing that matters is the state of the Fed’s balance sheet. The Fed didn’t see the dot com bubble and all it did in response was add liquidity and inflate a housing bubble. The Fed didn’t see that bubble either and its response to its popping was the same as the previous one. Now they are busy inflating another bubble they won’t see and I am left wondering what in the world they will do when this one pops like all the others. Meanwhile, mom and pop are getting back in the market in a big way – see recent mutual fund inflows – and I can’t help but wonder how they will recover from another Wall Street debacle. I don’t know when it will happen or why, but at some point the bulls’ hubris before the market will be punished. Given current valuations and sentiment it may be a thrashing for the record books.

What could go wrong? Stocks are going up and the Fed has our backs. QE is the magic elixir that heals the economy and makes stock prices go up. Margin debt, schmargin debt; who cares? Bears are scarce? Who cares? The economy is punk? Who cares? QE will save the day. The US Dollar chart looks like a ski slope? Who cares? A cheaper dollar is good for exports and even if it isn’t, QE will save the day. Amazon doesn’t make any money? Who cares? Tesla has sold less than 20,000 cars and has a market cap of $23 billion? Who cares? Valuations? Shiller P/E? Who cares? QE! QE! QE! Sing its praises! Nothing can go wrong as long as Ben and Janet are there to save the day.

Except it will. Something will come along that no one is currently expecting and end the party. It always does. Investors – as opposed to speculators and you better know which you are – should probably be formulating an exit strategy even if the Fed isn’t.

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For information on Alhambra Investment Partners’ money management services and global portfolio approach to capital preservation, Joe Calhoun can be reached at: jyc3@4kb.d43.myftpupload.com or   786-249-3773. You can also book an appointment using our contact form.