Who has been buying since 2009?

This is a great article from Seeking Alpha regarding who is actually doing the buying since the March 2009 bottom. Considering mutual fund inflows were actually down over that period, the emphatic answer is the Federal Reserve. This is why we see sharp declines once the QE programs finish.

As we approach the third anniversary of the stock market bottom in early March 2009, it is reasonable to reflect and ask the following question. Who exactly has been buying the stocks that have been driving the market up over the last three years?

I’ll say this – this article wasn’t too well-written, but the point is pretty clear, and one that I agree with – the rally we’ve seen since the lows of March 2009 is a bit of an illusion, in the fact that real investors (both retail and institutional) have essentially not participated as one would have thought if things were really coming back in a healthy fashion.

The article below does not go into great detail about HOW the Fed props up the stock market, but then again, there are many things about the Fed we’ll never know about.

It took a couple of years just to have this revealed by Bloomberg this past November (interesting to note how this got very little media attention despite the fact it dwarfs the TARP program):


Some notable parts:

  • The amount of money the central bank parceled out was surprising even to Gary H. Stern, president of the Federal Reserve Bank of Minneapolis from 1985 to 2009, who says he “wasn’t aware of the magnitude.” It dwarfed the Treasury Department’s better-known $700 billion Troubled Asset Relief Program, or TARP. Add up guarantees and lending limits, and the Fed had committed $7.77 trillion as of March 2009 to rescuing the financial system, more than half the value of everything produced in the U.S. that year.
  • The Fed has been lending money to banks through its so- called discount window since just after its founding in 1913. Starting in August 2007, when confidence in banks began to wane, it created a variety of ways to bolster the financial system with cash or easily traded securities. By the end of 2008, the central bank had established or expanded 11 lending facilities catering to banks, securities firms and corporations that couldn’t get short-term loans from their usual sources.

Essentially, since the onset of the financial crisis, the Fed has been doling out “unlimited” liquidity at zero interest rates to major banks around the world so that THEY can speculate in the markets with mitigated risk.

S&P 500:  Strong Rise from the Bottom, But Who’s Buying?

The answer? It certainly is not the average investor.

The Investment Company Institute (ICI) tracks the monthly net new cash flows for various mutual fund categories. Now during the period from March 2009 through the end of January 2012, the stock market has effectively doubled off of its bottom. So certainly, we must have seen a massive increase in the amount of new monthly cash flows into domestic equity mutual funds over this time period, right? After all, if investors weren’t putting money back into the market, what else would be driving it higher? But not only have we not seen a meaningful net increase in monthly net new cash flows into domestic equity mutual funds, we’ve instead seen a meaningful net DECREASE.

Over this same time period from March 2009 through January 2012, domestic equity mutual funds experienced monthly net cash outflows totaling $259 billion. This is a massive DECREASE in cash flows out of domestic equity funds during a time when the stock market itself DOUBLED in value. Now call me crazy, but a $259 billion decline is not chump change, so it would be reasonable to expect stock prices to actually DECLINE over this time period instead of RISE, and certainty not DOUBLE.

Given this disparity, it’s worthwhile to break apart the data. Perhaps domestic equity funds were experiencing inflows during the periods when the market was sharply rising and disproportionate outflows during corrections. But this is also not the case. During the period from March 2009 to April 2010 when the stock market was up well over +70%, domestic equity mutual funds experienced monthly net cash outflows totaling over $21 billion. And over the period from September 2010 to July 2011 when the market was fully engaged in another +30% rally, domestic funds leaked another $85 billion. So what we have here is a phenomenon where stocks are sharply rising while investors are selling out of their positions and exiting the asset class. Go figure.

Of course, a counterargument that could be made is the rapid growth of exchange traded funds. Sure money is flowing out of domestic equity mutual funds, but it’s likely to be more than offset by the money flowing into domestic equity exchange traded funds, right? Not necessarily so, according to the ICI. While data is not available for the period from March 2009 to April 2010, the total net assets in domestic equity exchange traded funds, never mind monthly net cash flows, over the period from September 2010 to July 2011 increased by $114 billion. Given the capital appreciation over this time period included in this number, the total monthly net cash flows into exchange traded funds would fall short of the $85 billion deficit from mutual funds cited above.

So what gives? How can the stock market double when at the same time the mutual funds that are investing in stocks are hemorrhaging assets?

The answer of course is the Fed. Over the last several years, the U.S. Federal Reserve along with its global central bank counterparts have injected massive sums of liquidity into capital markets that vastly exceed the $259 cumulative monthly net outflows from domestic equity funds. So as the average investor continues to head to the exit, the Fed is stepping in to fill the void through its ongoing stimulus programs.

This presents an increasing conundrum for the Fed, however. According to the Greater Fool Theory, the monetary stimulus flooding the market is promoting an environment where stocks are being bought by an ever shrinking pool of investors with the idea that as prices continuously melt higher that these same securities can be sold to some other Fed liquidity recipient at an even higher price. Unfortunately, the end game of such a scenario is that the Fed via the liquidity it is injecting will eventually be stuck as the greatest fool once the market peaks, as the already exiting average investor certainly won’t be stepping in to buy since their already well out the door at this point.

This helps explain why the stock market collapses so quickly following the end of each Fed stimulus program, as nobody else is truly buying to a measurable degree. And the higher the stock market is induced to float, the more dangerous this game becomes. Stay tuned.

So when investing in such an environment, seek to capitalize, but do so with caution. Defensive names such as Family Dollar (FDO), Kellogg (K) and Bristol-Myers Squibb (BMY) have demonstrated the ability to participate to the upside in these Fed driven markets while holding up relatively better during the subsequent corrections. And negatively correlated categories outside of stocks such as Long-Term U.S. Treasuries (TLT) and Long-Term U.S. Treasury STRIPS (EDV) have performed exceptionally well during periods when stocks enter into full correction mode. For example, the TLT and EDV were up +1.30% and +1.92% on Friday when the S&P 500 was down -0.69%. Applying strategies such as these can provide stability in an environment that continues to be marked by uncertainty resulting from ongoing policy actions.


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