Morgan Stanley issues triple sell warning on equities

[HenryTo]

http://www.telegraph.co.uk/money/main.jhtml?xml=/money/2007/06/06/cnmorgan106.xml

[dash]

Last time he issued a full house sell signal was in early 2000:

http://bespokeinvest.typepad.com/bespoke/2007/06/giving_credit_w.html

[HenryTo]

Dash, thanks for the link.

I sat through a lunch hosted by Marty Fridson on high yield bonds yesterday - and after sitting through it, I had a huge urge to go out there and start placing a bet for these instruments to decline substantially in price.

I will post an update tonight in our mid-week commentary on high yields.

[rffrydr]

Nov. thru Feb. High Yield disappeared.
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Today is the Tomorrow you worried about Yesterday!

[rffrydr]

MS says indicies masking overvaluation (read oil).
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Today is the Tomorrow you worried about Yesterday!

[HenryTo]

Dash,

I just read the MS commentary - the last "full house" sell signal was April 2002, not early 2000. I will correct that in this weekend's commentary.

Thanks,

Henry

[dash]

Ooops. Just goes to show that MarketThoughts is a much more reliable source of info than Bespoke Thanks for the correction.

I don't follow the European markets closely, but I was a bit surprised to hear MS thinks stocks are expensive relative to bonds. Here in the US, until recently, the relative cheapness of stocks vs bonds has been one of the main arguments underpinning the rise. In fact a dividend yield of 5.90% still looks largely supportive, even with 10yr yields now at 5%. So it seems to me that the sudden rise in yields, rather than their absolute levels is the main concern at the moment.

Here's Citibank with a slightly different take on this:

[HenryTo]

Dash, you're too kind, as always. I'll correct that in this weekend's commentary as well as list the dates of the prior signals.

Given the proliferation of hedge funds, private equity funds, and the huge weighting of the financial sector within the S&P 500, I would say that there is already some euphoria in the financial markets today, but that is not happening in equities as much as in other asset classes, such as real estate, commodities, EM securities, and high yield bonds.

Note the last chart I showed in the commentary this morning. If that isn't an indicator of euphoria, what is?

I am not sure why there isn't more speculation in equities, but perhaps the coupon payments, interest rates, yield spreads, and default risk is just much easier to model for hedge funds (even for a supercomputer) than equities are. Moreover, retail investors tend to speculate in equities as opposed to other vehicles, and they are still more or less out of the market right now, aside from mutual fund investments in their 401(k) or 403(b) porfolios.

[HenryTo]

So my take on all this is: The final top in equities have not come yet, but if we endure a significant correction in the high yield, commodity, or EM security market, then that will no doubt drag stocks down as well. Most probably not to as much as the extent we saw in Fall 1998, but it is probably going to be at least the 10% correction we have been looking for.

[dash]

Yes, those were scary charts in the mid-week commentary, especially for anyone holding a lot of junk debt. This said, the recent rise in yields has hit treasuries just as hard as corporate debt, so, so far at least, interest rate rises don't seem to be happening because of a mass exit from high yield. Similarly, the selloff in late Feb was (supposedly) caused by a reduced appetite for risk. Stable corporate bond spreads aren't an indication that this is now happening, though demand for credit default swaps is on the rise.

Spreads on inflation linked treasuries have also been steady, so it doesn't seem like higher yileds are being driven by inflationary fears either.

Interestingly, the yield curve is now fully upward sloping as yields on medium to longer maturities have risen more than the short-end of the curve. An inverted curve didn't lead to a recession or a bear market (at least not so far), so will an upward sloping curve be an accurate indicator of a period of future economic strength?

[rffrydr]

Citibank like a lotta investors is going down looking for the rabid retail investor--they'll never find him. He's paying his mortgage(s). To add insult to injury the Schwabs of the world are consolidating--out of weakness.

T-bills below funds:

It's not inflation, and not economic slowdown. The dollar isn't rallying and the spreads over treasuries are not coming off. It's that old bugaboo the Current Account as sparked by the China Bull and the disengaging from the dollar by petromoney. The stage was set weeks ago with big chinese buying of T-bills (over bonds); dollar selloff on their sovereign funds; Kuwait and Syria unpegging to the dollar; and PE going bonkers to suck up the bottom of the punchbowl. Then, the pricing of Blackstone as China commits. The new Japanese?

ps The Wed before expiration friday

It's not a bear until Apple and The GOOG join the party.
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Today is the Tomorrow you worried about Yesterday!

[dash]

I'm still having a hard time understanding MS comment about European P/Es being at record highs. Perhaps the Telegraph journalist misquotes him, but even if that's not the case the premise is that valuations have become much less attractive, and the latest market commentary also points out that equities are at their most expensive levels since May 2006.

Nevertheless, if you look at what's happened to P/E ratios since this bull market began (early 2003) then in the majority of cases we've actually seen a decline. Here's a post from Ticker Sense with the data:

http://tickersense.typepad.com/ticker_sense/2007/06/global_returns_.html

[rffrydr]

I think it's the Oils/chemicals selling at peak cycle lows (and a few assorted related basic materials e.g. steel). Heavy representation in DAX. Less in the SP but still creates heavy skew.
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Today is the Tomorrow you worried about Yesterday!

[HenryTo]

Mr. Draaisma of Morgan Stanley is back again - this time says to go to cash again:

http://www.ft.com/cms/s/0/ddeb0f1c-915a-11dc-9590-0000779fd2ac.html

[rffrydr]

He's bullish on value...soon: