Bears Surrendering Again With S&P 500 Rally Defying All Bad News

(Bloomberg) -- Potential dip buyers were seeing plenty of bleak headlines as U.S. stocks sold off last week. Growth was slowing. Another wave of virus infections was raging. The Federal Reserve mulled tapering monetary stimulus. And few stocks were supporting the market. 

With fears growing that the worst was yet to come, hedge funds stepped up selling. During the first four days of last week, they dumped stocks at the fastest pace in four months, with short sales outpacing long buys by a ratio of 10-to-1, client data compiled by Goldman Sachs Group Inc.’s prime broker show. Similar data at Morgan Stanley pointed to a pivot to exit as well. 

Yet as has been the case all year, that doubt proved misplaced. The S&P 500 Index fully recovered in days, notching record highs along the way. American stocks joined a global rally on Tuesday as China’s central bank chief vowed to stabilize the supply of credit and boost the amount of money supporting smaller businesses and the real economy.   

It’s the latest evidence of a resilient market that has defied all the worries from sky-high valuations to an economic slowdown. As bears give up, their moves add fuel to the rally that’s already the fastest in nine decades. 

A Goldman Sachs basket of most-shorted stocks climbed 1.8% Tuesday, way ahead of the S&P 500’s 0.2% increase, as bears were forced to cover their positions to limit losses. That followed Monday, when Russell 3000 stocks performed in a perfect inverse relationship to their short interest. That is, the higher a stock’s short interest, the better the return. 

“I’m 100% surprised by the market momentum,” said Chad Morganlander, senior money manager at Washington Crossing Advisors. “Some of it is based off earnings, but most of it is based off monetary policy not only here in the United States but across the globe,” he added. “It’s impossible to be a skeptic when you have liquidity so ample.”

Count Wells Fargo’s Chris Harvey as the latest bear who gave up. The equity strategist boosted his year-end target for the S&P 500 to 4,825 from 3,850 previously, citing an earnings rebound that’s faster than expected. A strong market usually begets higher prices, he notes, pointing to a historic pattern where the index tended to keep rising for the rest of the year after posting a gain of at least 10% in the first eight months. 

The S&P 500 has jumped 20% this year, having gone almost 10 months without a 5% drawdown. While the rally has driven short sellers almost into extinction, skepticism lingers. Strategists at Bank of America and Stifel Nicolaus, for instance, still expect the index to end the year at 3,800 -- a 15% drop.

To Stephen Dover who views sentiment as a contrarian indicator, the persistent caution is a healthy sign for the market. 

“One of my concerns is that all of the bears seem to be in hibernation and whenever that’s the case, historically it’s been an indicator that it’s a one-sided trade,” said Dover, chief market strategist and head of Franklin Templeton Investment Institute. “I can tell you just anecdotally that we do have bears -- strong bears -- within Franklin Templeton, but they whisper now rather than speak loudly because they’ve been bears for the last year or so.”

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