Monday, May 14, 2007

Retail Investor Participation

I'm currently long this market even though there are clear signs of a slowing economy. First, let me clarify my thinking on the recent retail sales report, which on Thursday was supposedly the trigger of a triple digit Dow decline. Although April’s number was a much below anticipated -2.3%, March’s was a very strong +6%. I believe the proper way of accounting is to take a two months average due to the early Easter, which leaves a +1.85% per month nominal growth. The number shows weakness in the consumer sector: even if you believe the CPI accurately reflects inflation, retail sales declined in real terms. Nonetheless, the number does not (yet) spell doom and gloom as many bears would have you believe. At any rate, the market may and does act quite independently of the real economy. The Dow, which has been leading the charge, it safely retreat to the 13100 level without violating the most recent power-up trend.

One thing that convinces me that this bull market has one more leg in it is the lack of retail investor participation which is reflected in the behavior of the online brokers like ETrade (EFTC) and TDAmeritrade (AMTD). In the 1-year chart, they both notably underperformed S&P and XLF (the financials ETF). Zero-commission brokers that should be siphoning off business from these two did not appear untill this year, so the weaknesses in EFTC and AMTD do appear to be a reflection of lack of conviction on the part of retail investors who're invariably the bag-holders. Right now I don't expect this rally to end until they are sucked in. On shorter time frames, AMTD especially has been perking up, which may indicate some shift in psychology. At any rate, buying begets more buying, if (or when) the S&P makes a new all time high, I expect people will come back to the stock market en masse.

To be perfectly clear, I’m in the camp of a mild recession coming later this year. The lackluster personal consumption numbers sealed the deal for me. But I fully expect the pundits to be talking up business CapEx spending and a possible rate-cut, as they always do. That said, I’m not going to pick the top, instead I'll let the market tell me when to get out.