investment viewpoints
What has driven the stock-market rally – and can it continue?
Equity markets delivered positive returns for four consecutive weeks in November. The S&P 500 index rose about 9% last month, marking its strongest monthly performance since July 2022. There was no obvious reason for this rally, unless a slight miss of 0.1% in the October US Consumer Prices Index (CPI) report counts. But if not, what prompted this surge? In this weekly edition of Simply put, we investigate the forces behind the rally and what this means for its staying power.
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What type of investor is drove the rally?
There was no obvious reason for November’s strong equity performance from a macro point of view, nor from the perspective of valuations either. This suggests the rally was rooted in sentiment. Following the US inflation release, some investors fervently bought stocks. Such a situation begs the question: what type of investor is driving this trend? Among institutional, quantitative and retail investors, only the latter seem to have shifted their equity positioning in November, from defensive to positively exposed. What usually happens after retail players re-risk rapidly?
A tale of three investors
Equities undertook a steep decline from September until the last week of October. During this period, investors allocated more cautiously, reducing their exposure to stocks and prioritising cash. However, since the beginning of November, optimism among retail investors with regards to the outlook for equities has sharply risen.
Figure 1 shows equity positioning for retail, commodity trade advisor (CTA) and UCITS macro managers, and casts light on the origin of this renewed optimism. Retail investors, in particular, have sharply increased their exposure, shifting from low to highly exposed in a matter of weeks. On the other hand, UCITS Macro managers, which together serve as a proxy for institutional investors, have also increased their aggregate allocation to equities over the period, albeit by a much lesser extent compared to retail investors. Interestingly, CTAs, which could eventually be the reason for the stock market rally, have low exposure. Considering these dynamics, if the surprise rally can be attributed to one of these sources, it’s retail money.
FIG 1. Scored evolution of different investors’ equities positioning
Source: Bloomberg, LOIM. For illustrative purposes only.
Can retail investors sustain the rally?
Can the actions of retail investors explain recent equity-market performance? Figure 2 provides valuable insights into the relationship between investor positioning and average (annualised) equity performance. The charts show how during periods characterised by positive and increasing equity positioning, retail money tends to lead to a higher level of average performance among the three investor groups over the 2008-2023 period.
Equities performance, as shown, reaches approximately 25% on an annualised basis when retail money is increasingly positively positioned in the asset class. In contrast, CTAs exhibit an average performance of around 1%, while UCITS Macro managers contribute to an average of about 15%. When comparing such numbers over the 2008-2023 and 2020-2023 periods, the market impact of retail investors seems to almost double up. The approximate 7% performance of the MSCI World over the period is not inconsistent with these averages. Can this pattern create an enduring rise in returns?. This is less clear.
FIG 2. Average equity performance as a function of different investors’ positioning
Source: Bloomberg, LOIM. For illustrative purposes only. Past performance is not a guarantee of future success.
A rally that is here to stay?
What happens to average performance in the week following a positive or negative change in positioning? When examining the average performance following positive equity positioning, it becomes apparent that retail investors' higher equities exposure does not necessarily translate into future gains, as historical averages are close to zero.
In contrast, UCITS Macro investors exhibit a notable positive average performance of almost 6% in the week following their positive equity exposures, as shown in figure 3. This suggests that institutional investors have a more profound impact in driving longer lasting bull runs. Similarly, CTA investors’ shifts in allocation lead to an average performance of 3%. While retail investors may contribute to the overall market sentiment and momentum, their impact is mostly coincidental.
Given the strength of the November rally, be careful in preparing for what comes next!
FIG 3. Average performance of investors as a function of positive/negative positioning, in the subsequent week
Source: LOIM, Bloomberg. For illustrative purposes only. Past performance is not a guarantee of future success.
| Simply put, the recent stock market rally has been primarily driven by retail investors' shift in positioning. Their impact on markets is usually not a long-lasting one – keep this in mind when considering the prospects for a Christmas rally. |
Nowcasting corner
The most recent evolution of our proprietary nowcasting indicators for global growth, global inflation surprises, and global monetary policy surprises are designed to track the recent progression of macroeconomic factors driving the markets.
Our nowcasting indicators currently show:
- Growth, on a global basis, has remained unchanged over the week. Our US indicator is hovering around the 30% recession threshold
- Inflation has declined worldwide, essentially reflecting falling inflationary pressures in the US
- Monetary policy developments across the world show how the odds of a Federal Reserve pivot are currently rising rapidly.
World growth nowcaster: long-term (left) and recent evolution (right)
World inflation nowcaster: long-term (left) and recent evolution (right)
World monetary policy nowcaster: long-term (left) and recent evolution (right)
Reading note: LOIM’s nowcasting indicator gather economic indicators in a point-in-time manner in order to measure the likelihood of a given macro risk – growth, inflation surprises and monetary policy surprises. The Nowcaster varies between 0% (low growth, low inflation surprises and dovish monetary policy) and 100% (the high growth, high inflation surprises and hawkish monetary policy).
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