How has the market managed to hold its ground near record highs against a jarring breakdown in the bull market’s bell cow Nvidia , a jumpy bond market, some uninspiring results from Apple and Microsoft and on-and-off-and-on tariff threats against the America’s largest trading partners? By relying on the two most powerful forces blowing through Wall Street: the tenacious bid for stocks among retail investors and an immaculate rotation among sectors that insulates the tape against more violent moves. Whether Friday’s sharp intraday wobble on some tariff headlines was a sign that these salutary factors are losing their hold on the market is just one crucial question awaiting investors in February. The generally sturdy economy, expectations of broader earnings growth and a business-fixated administration are the baseline conditions for recent market strength, for sure. Yet the little guy has come up big for the bulls this year, retail investors showing a significantly higher risk appetite in recent weeks than professional fund managers. This is visible in brokerage trading flows, the moonshot performance of Robinhood shares and the active dip-buying reflex in bitcoin . Bank of America’s equity trading desk offered the following color on Friday on professional net selling countered by households: “Hedge Funds led the pack, size-wise, offering their largest sales since July 2023 (which preceded an S & P dip of -10%). [Long-only funds] also sold big, unloading > 50% of what they’d bought over the last four weeks. Outlier? Retail traders – buying-the-dip and buying tech. Retail traders are always net buyers in January, but this year’s inflows are twice the size of last year.” Barclays’ equity strategy team highlights similar patterns over the course of January, observing “Both mutual and leveraged funds re-risked only modestly, and their positioning hasn’t come back to the 2024 highs. Cash remains king and bonds likely benefited from month-end rebalancing most recently. In contrast, the buoyant Trump trade saw even more equity and crypto buying by the retail cohort in January, pushing households’ equity exposure to an all-time high.” Bigger buying than 2021 meme rally This enthusiasm among the non-professional cohort is visible in this chart showing a new high in retail-originated trading volumes, eclipsing the early-2021 burst that emerged from the pandemic momentum- and meme-trading stampede. JP Morgan has likewise been following the tracks of the retail herd, finding a high correlation of daily price moves between more speculative small-cap tech stocks and Bitcoin, plotted here. Both assets are floated on waves of belief in some brilliant and fast-approaching future, which has lately tended to swamp any concern for downside volatility. Look at how the stock price of Robinhood, the signature brokerage platform for today’s at-home and on-the-go traders, and Palantir , the software name with the most avid and aggressive retail fan base. Both stocks in recent months finally eclipsed their prior frothy record high set in the frenzy of the 2021 rally in unprofitable tech. HOOD PLTR 1Y mountain Robinhood vs. Palantir, 1-year Now that we’ve established that retail-investor fervor is a thing, is it a good thing or bad thing? Several things can apply at once. Broader public participation is a core and crucial feature of any bull market, especially one that’s been underway for a while. The ordinary investor loving stocks is not a smart reason to start hating them. The typical long-term buy-and-hold amateur will stay in tune with broad market trends and tend to do better than tactical professionals. Yet highly active retail traders in aggregate are prone to herding and as a group fast-money amateurs can overshoot and make the tape more fragile at extremes. Sentimentrader.com has long kept the uncharitably named Dumb Money Confidence index to track a set of transactional behaviors by retail players. It has recently perked up quite a bit as the corollary Smart Money Confidence gauge has pulled back, but at last report was still shy of the readings that have served over time as a signal of oncoming market weakness. Similarly, margin debt tracked by the industry regulator FINRA has gone up steeply, though remains shy of the 2021 peak in absolute terms and is also short of worrisome readings as a percentage of total equity market value. I’ve noted in recent months that all this retail ferment could well be the market revving toward a true melt-up sort of run at some point, perhaps if the promised wave of IPOs finally crashes ashore. For most of the past two-plus years, the market has paused and retrenched before going into full momentum-froth mode, healing itself, but hard to say if that pattern will continue. The takeaway here is, be watchful of excesses developing and be aware that this crowd can exhaust itself buying dips in the same old favorites. Is something like this happening in Nvidia? The Street flow trackers have noted that small traders, have been persistent bidders for Nvidia shares and options on each break, even as fund managers have gradually lightened up in the stock (which is flat over the past eight months). Remarkable rotation Alongside the staunch retail flow, the remarkable rotational choreography that has allowed sectors and stocks to alternate leadership responsibilities, withstand occasional mega-cap blowups and suppress index-level volatility. Bull markets always benefit from healthy rotation, which refreshes tired stocks while reinvigorating laggards, as investors choose to shuffle exposures around rather than liquidate portfolios wholesale. But the “dispersion,” as it’s called, has reached a truly extreme, almost baroque degree lately. Goldman Sachs on Friday calculated that over the prior five trading sessions, the realized volatility for the S & P 500 amounted to a 0.9% daily move. During that same span, the realized vol for the avg stock in the index computes to a 2.8% move. This was the greatest spread between single-tock movement and index changes since late 2020 when the Covid vaccine news and presidential election scrambled the board. Another way of quantifying all this is the CBOE’s 3-Month Implied Correlation Index, which uses options pricing to measure the degree to which big stocks are seen to be moving together or independently. We’re essentially at a record low for this type of stock-to-stock-to-index linkage. In theory, this should create opportunity for active managers to find stocks that distinguish themselves on their own merits – the dreamed-of “stock picker’s market.” Of course, it also means it’s been easier to grab for underperformers and to get caught up in nasty whipsaw rotations. Generally, if tentatively, this to-and-fro action has given a reprieve to the average stock relative to the largest growth winners that dominated the market through the middle of last year. Still, this look at the equal-weight S & P 500 relative to Nasdaq 100 shows the vaunted “broadening” hasn’t been all that decisive just yet. The heavy flow of retail cash finding its way into a market that has managed to maintain such elegant rotational choreography has been the story of the year so far, and on balance these are helpful attributes. But it doesn’t hurt to stay alert for any hints that these forces could wane, should new-year inflows to stocks downshift and the gears running this mechanical rotation start to slip.
The two powerful forces that have kept this bull market from breaking down
Feb 1, 2025
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