JPMorgan's market guru says stocks can hit records this summer as hedge funds and quants put $400 billion to work

Advertisement
JPMorgan's market guru says stocks can hit records this summer as hedge funds and quants put $400 billion to work
A trader works on the floor of the New York Stock Exchange shortly before the closing bell in New YorkReuters
  • Stocks' price-earnings ratios remain at historic highs, but their value compared with bonds suggests a market booster could be on the horizon, Marko Kolanovic, the head of macro quantitative and derivatives research at JPMorgan, said on Wednesday.
  • Central banks' relief programs prompted an exodus from equities and flooded the bond market with investor cash.
  • But quantitative funds' trading algorithms are on the verge of triggering a return to the stock market as volatility eases, Kolanovic wrote in a note.
  • For such firms to reach their median equity exposure, they'd need to add $400 billion to the stock market — a move like that would be a shot in the arm for stock valuations and "easily push the broad market to new highs," the analyst added.
  • The market is also set for a mass rotation from growth names to value stocks once investors reprice for weaker-than-expected fallout from the coronavirus pandemic, the bank said.
  • Visit the Business Insider homepage for more stories.
Advertisement

Stocks sit at historically expensive levels, but not in the way that matters most, JPMorgan said on Wednesday.

Price-earnings ratios remain elevated, but prices relative to bonds are the signals to watch for market moves, Marko Kolanovic, the head of macro quantitative and derivatives research at the bank, wrote in a note to clients. Stocks are "quite cheap" by that measure, and the dislocation is directly tied to a decline in bond yields, he added.

Central banks' initial economic relief efforts — rate cuts and asset purchases — prompted investors to follow close behind and flood the bond market with cash. But just as capital flowed out of stocks through the start of the coronavirus pandemic, it's likely to rush back in the summer, JPMorgan said.

Read more: 174 units with no prior experience: Here's the creative real-estate investing strategy a former Marine is using to generate 'crazy' cash flow

Quantitative hedge funds — including volatility-targeting and risk-parity funds — slashed exposure to the stock market earlier in 2020 as virus risks raged. The trading algorithms commonly used by such firms target gauges to decide when capital should be pulled from or added to stocks.

Advertisement

If the volatility-tracking VIX index falls below 30 though the summer, the firms' programs could push hundreds of billions of dollars back into the stock market, Kolanovic said.

"For these investors to reach their historical median equity exposure, they would need to add ~$400 billion of equity exposure, which can easily push the broad market to new highs," he wrote.

Read more: Buy these 15 stocks that are shielded from COVID-19 fallout and primed to beat the market even as virus cases spike, Evercore says

A summer rally isn't set to lift growth stocks as much as value names, the head quant added. Mega-caps including Amazon, Apple, and Tesla are hot off all-time highs, benefiting from expectations for the pandemic to worsen. Investors also expect former Vice President Joe Biden to take the White House in November. But the market isn't correctly pricing either event, the bank said.

Coronavirus cases in Texas, California, Arizona, and Florida, while soaring, aren't giving way to the same mortality rates seen in New York at the start of the US outbreak. The data could suggest that even as a second wave of infections emerges, the economic toll will be less pronounced. Additionally, JPMorgan sees no large difference between a Trump or Biden presidency.

Advertisement

When the market reprices the impact of surging infections and a Biden victory, it "could result in a rapid momentum sell-off and value rally," Kolanovic said.

Now read more markets coverage from Markets Insider and Business Insider:

Dogecoin volumes spike 683% after viral TikTok challenge urges buying spree

Market bear Crispin Odey sees hedge fund massively underperform with 17.9% plunge in first half of 2020

UBS has compiled an investing playbook for all the possible election outcomes. Here are the 6 trades it recommends to profit from a Trump triumph — and 10 for a Biden blue wave.

Advertisement
{{}}