Sorry Donald, It’s Not a Trump Rally…New Highs are Caused by Hedge Fund Woes

Sometimes it pays to be in the right place at the right time. The guy whose seat gets called for the million-dollar half-court shot. Jed Clampett misfiring at his dinner and hitting Texas Tea. Donald Trump winning the election at the same time that every pension plan decides to dump their hedge funds.

Seriously, can’t you see the Donald running around his mansion, calling out stock quotes with pure glee in his voice. I mean, who else is going to take the credit for this rally, if not the Donald. I have a mental image of him saying repeatedly, “They love me…”, in a sorta Alec Baldwin low-monotonal drawl. Well, I have news for you Mr. President-elect. You won the election because they hated her…and the market’s going up because they hate the hedge funds. Right place, right time.

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The market has indeed made an incredible run ever since the election. You had the initial downward move, but that’s ancient history. Since the first of November, it’s been one direction only, straight up to the tune of 16%.

The first legs of this move higher was indeed a response to the election. However, do you really think that the possibility of Trump pushing a growth agenda through Congress is enough to justify day after day of new highs? Well, I guess the media does as the headlines all read something like this…

Trump rally has punished doubters as the stock market roars to all-time highs – CNN.Com December 9, 2016

Or, this…

The Trump Stock Rally: ‘Big, Fat, Ugly Bubble’? – Barron’s December 8, 2016

I think the media is, not surprisingly, wrong on this one. I’ll grant that Trump’s pro-growth policies are good for stocks. But, there’s more at play here. What we are seeing is one of the largest asset allocation shifts in history.

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My good friend, the MacroTourist whose work I admire more than any other prognosticator, wrote a great piece this week titled THE WORLD’S BIGGEST SHORT SQUEEZE. In this work, he discussed how pension plans are underperforming versus their benchmarks. And, since no one ever wants to admit that they can’t achieve their goals, managers are NOT lowering their return assumptions. Instead, they are jacking up the risk piece of their portfolio and buying stocks instead of hedge funds.

MacroTourist, you’re a genius. In a call with a large fund manager today, he pretty much seconded this opinion, saying that managers are taking money from hedge funds for the following reasons. 1. Weak returns. 2. An increased sensitivity to fees.

As usual, this is a total herd mentality. The ball starts and it snowballs. Kentucky just pulled $800 million starting this year. In an article discussing this, the WSJ had the following chart.

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My guess is that hedge funds underperform even worse as they unwind positions. This then becomes a self-fulfilling prophecy and we see more redemptions. This industry is in for a period of pain.

On the other side of their pain, however, where is this money going? Well, the choices are very limited. Bonds are definitely out as the expected returns there are too low, so you’ll miss the bogey. Real estate, venture capital, private equity? These groups are tough to deploy money into quickly as they have draw downs, etc. You can’t swap dollar for dollar in a reasonable time frame.

Which leaves equities as really the only place to go. The returns are expected to be decent from here, and the liquidity exists to put your money to work rapidly. The MacroTourist calls it a short squeeze in that funds are Short of their benchmark and funds are trying to Squeeze out some extra returns.

I call it a simple asset allocation shift. Hedge funds are instruments designed to make big bets and charge high performance fees. They are not meant to be low return vehicles that survive off of the management fees, while underperforming their benchmarks.

Year end is the biggest portfolio rebalancing period, and we are seeing a massive amount of money flowing into stocks in anticipation of this. I expect this trend to continue through the month of December, and probably well into January before it cools down. At that time, investors will have made the bulk of the asset shift, roughly coinciding with Mr. Trump’s inauguration. Making it quite possible that the “Trump Rally” will end when he gets sworn in.

Let’s hope he enjoys this rally and makes the most of it…”They love me!” Because, come January it’s setting up that such that we might be watching him preside over the “Trump Correction”.

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