Citi’s Tobias Levkovich is increasingly worried that investors are getting a bit too excited about buying.
Among other things, he notes that correlations between stocks are breaking down. In other words, stocks are increasingly trading independent of each other. From his recent note to clients:
Intriguingly, intra-stock correlation of the top 50 market cap stocks in the S&P 500 has fallen back towards the 20% area (see Figure 3) indicating far less concern around macro issues and thereby greater willingness for fund managers to focus mainly on micro developments or specific stock ideas; something they rather enjoy doing. But, it suggests that macro risks are not being considered enough and thus a poor number on Chinese PMI, for instance, can generate volatile trading patterns as seen with the Nikkei (and its global reverberations) this past week.
Typically, correlations rise and fall with market-wide volatility. Levkovich seems to be arguing that low correlations are reflective of complacency.
Macro surprises are captured in Citi’s Economic Surprise Index (CESI), which has not been bullish. From Levkovich:
Some investors have suggested that Citi’s Economic Surprise Index is more positive on the macro front, but the major economies’ version of the index (see Figure 4), which has the greatest correlation (albeit coincident rather than causal) with the S&P 500, has stabilised for now rather than necessarily signaling a new uptrend.
“Thus, we suspect investors are looking for excuses to increase their equity positions as rising benchmarks are causing enormous performance anxiety,” said Levkovich of underperforming fund managers.