Expect to earn 14.5% per year after inflation over the long term

Last Friday before opening, I was telling my groups that I didn't believe the market would make new highs without heading back again first. Of course I was wrong as new highs were made again by closing! Sure the price action remains very strong and bullish but, this is a big BUT, the underlying technicality continues to deteriorate, and fast!! I'm still very much convinced this bullishness won't be sustainable for long and we will see a sizable, probably a surprisingly big correction in the near future. With this in mind, I'm doing more short side trades for those crazily overbought stocks in the short term but start to be trending down, e.g. AMZN and LABU. I'm also taking advantage of the extremely low VIX to buy longer term puts for the next couple of months. Although the market can ignore the gravity for now, it will be pulled back by the gravity sooner or later. It is just a matter of when, not if.....

Now I have seen an interesting survey result that I think it would be interesting to many of you folks:  

French investment bank Natixis recently issued the 2021 edition of its annual Global Survey of Individual Investors...

The company surveyed 8,550 investors in 24 countries. Each respondent had minimum investable assets of $100,000. Based on the results, Natixis said the gap between individual and professional investors' expectations for long-term investment returns has widened "dramatically"...

Individual investors who were surveyed expect to make inflation-adjusted returns of 14.5% per year over the long term. Meanwhile, professionals expect to make 5.3% per year. In other words, individual investors expect a 174% greater result (14.5% compared with 5.3%) than professionals. That's 53 percentage points above last year's expectations.

The real point isn't the specific numbers or whether they'll come true. It's the extreme difference between individuals and professionals' expectations – how optimistic individuals all over the world are right now. (Remember, Natixis surveyed investors in 24 countries.) Both groups are likely to be wrong. But one group is very obviously much more aware of the risks than the other and has tempered its expectations accordingly. The other hasn't.

It reminds us of an anecdote from the dot-com era.....

A couple went to a financial adviser in the late stages of the dot-com bubble. The adviser was bullish and excitedly told the couple that they could expect to make 20% per year in the stock market if they bought the funds he recommended. The couple was disappointed, though... And they replied, "No, we want to make 100% a year."

The dot-com bubble fueled irrational expectations. Likewise, expecting 14.5% per year after inflation over the long term, when equities are trading at their highest valuations in recorded history, is far too optimistic.

Needless to say, I'm on the side of the professional expectations for a miniscule average return for the next 5-10 years. I think they have a good basis for such a downbeat hope:  inflation is headed much higher and liquidity is headed much lower!

The most recent PCE reading was 3.9% in May... nearly double the Fed's stated goal of 2% inflation over the long run. The Fed says this is only temporary, and that it's nothing to worry about. REALLY? Just look at our money supply. The U.S. "M2" money supply (includING cash, checking and savings accounts, money-market accounts, and mutual funds – is up 33% since the end of 2019). And the more liquid "M1" money supply (i.e. coins and currency in circulation plus checking accounts) is up 378% since the end of 2019.

I'd think any rational human with normal common sense should also know that this game can't go on forever... We're fast approaching a tipping point where it will be "game over" for the Fed. Once the Fed realizes that today's high inflation isn't going away anytime soon, the printing party will end abruptly. It is important to know that the Fed can only control the very short term interest rate but the market will determine the longer term rates. As such, even if the Fed doesn't act, the free market will. Consumers don't have much power to combat rising prices – but creditors do...and they will demand higher interest rates if hyperinflation is in sight!! Here are a few obvious consequences of higher interests:  

• Higher interest rates make stocks less valuable. Many investors will sell them in favor of safer, higher-yielding fixed-income securities.
• Higher interest rates are also a problem for another reason... They cost companies more to service their debt.  

Investors already fear rising inflation and climbing interest rates. A wave of bankruptcies – which is already underway, by the way – will create even more fear in the markets. As that happens, investors will dump risky, overleveraged stocks. And they'll dump corporate bonds... causing bond prices to plummet and interest rates to go even higher.  The chain reaction will continue... With more companies defaulting on their debt, banks will tighten credit. And that will lead to even more bankruptcies.

So fasten your seatbelt as we're on the verge of the next credit crisis. 

Of course I'm not talking about an epic crisis in the next few months but there is an increasing chance that this may start to emerge towards the end of the year or some time next year. Just watch the volatility. As the moment comes near, we will start to see crazy volatility for a period of time before waterfall types of crashes suddenly hit the market seemingly out of the blue!  Just remember, before we saw the prolonged over 50% decline when the dot.com bubble burst in 2000, the market had experienced 7-8 times of correction in the size of 10% or more while it was still moving up relentlessly towards the end of the 90s. I bet we are in such a period right now!!