So despite the unprecedented aggressive action of central banks in reducing interest rates to stimulate economic growth, the results are coming in well below that of prior recoveries.   Adding up the slower economic growth, high stock valuations and the excessive dependence on the ‘largesse’ of extremely favourable central bank policies are what make us cautious about the outlook for stocks.   Our portfolio structure has higher than normal level of cash (despite low returns) and a low stock weight with a focus on defensive growth stocks with high dividend yields.  This includes larger weights in financial sector in both the U.S. and Canada.  Canadian manufacturing and export businesses also look good due to the low value of the Canadian dollar.  We also still like the technology stocks for longer term growth with on focus on the larger companies that have a global footprint, strong brand recognition and good cash flow generation.  This includes Apple, Google, Microsoft and Oracle.

Areas we have started to move out include stock groups that are referred to as ‘bond proxies’, such as utilities, telecom stocks, consumer staples and real estate investment trusts.  We are still underweight the energy stocks as they have rallied sharply off recent lows and we still expect oil prices to move back towards US$50 on excess supply, but we are definitely looking at adding further to some of the companies that will be ‘consolidators’ once we see some lower prices.  This includes names such as Whitecap Energy, Raging River Exploration, Crescent Point Energy and, in the energy services sector, Trinidad Drilling and Secure Energy Services.

We suggested earlier that one of the bullish arguments for stocks is the belief that the general public is not in the stock market to the degree they were in past cycles; the notion that a huge amount of cash is sitting “on the sidelines,” as investment professionals say.  The story is that it’s just ready to propel the market higher once ‘Nervous Nellie’ investors finally decide that this bull market is for real.  It would indeed be bullish if there were a lot of sideline cash.  As market folklore has it, bull markets don’t come to an end until the last bear throws in the towel.  It certainly appears as though we’re nowhere close to having the last bear turn bullish. A recent Bankrate survey, for example, found that only 48% of Americans are investing in the stock market. It was close to 70% in the early years of this century.  But there’s a big problem with this otherwise compelling story: There is scant direct evidence that this huge pile of sideline cash actually exists.  Ned Davis of Ned Davis Research, after extensively looking for such evidence, recently pronounced that “I simply cannot find it.”  Davis looked for this cash in four areas. In each case, current levels are some of the lowest in history:

Money market funds. This is the most obvious place where cash would be stored. But as a share of the total market cap of the entire stock market, current money market fund assets are very low by historical standards at 11.3%.  Before the 2007 market top, the lowest this share got was 12.7%.  Davis calculates that the current percentage is in the historical zone associated with annualized stock market returns of only 0.4%.

Households’ free liquidity. Davis next focused on non-equity liquid assets, net of liabilities. As a percentage of the stock market’s total market cap, this free liquidity stands at 39.8%. That’s not only lower than what was registered at the 2007 top, it’s the lowest in 60 years with only one exception: the top of the Internet bubble.  According to Davis, the current percentage is in the historical zone associated with minus 0.2% annualized returns.

M2 money supply. Davis expanded his net even more broadly. As a percentage of total market cap, however, M2 money supply also is lower than at any time since the 1920s — again with just one exception: the top of the Internet bubble. It’s currently in the historical zone associated with 0.8% annualized returns.

Credit balances in brokerage accounts. There was $285.6 billion of such balances at the end of March, which certainly looks like a big number. But Davis reminds us that there also is a record amount of margin debt in those same brokerage accounts — $476.4 billion. The net number is the lowest in history, according to Davis.  What, then, are the 52% of households who are not in the stock market doing with their spare cash? One obvious answer is that many of them don’t have any spare cash. As Davis reminds us, “real median household income has plunged since around 2000.”

The bottom line? The data on sideline cash paint a far different picture than the headlines would otherwise lead you to believe. Far from supporting the bulls, that data actually back the bears. 

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