Why Stocks Are Going Up

Many are baffled by the continued rise in the stock market as the economy is clearly slowing. The stock market is governed by supply and demand, not by the economy. Recently we have seen heavy demand for shares from corporations. Off the top of my head I could think of the following share buyback announcements just in the past week or so:

• RIMM announced that they bought back $1.5 billion worth of shares over the past quarter, amounting to well over 5% of their outstanding shares.
• Texas Instruments announced a $7.5 billion buyback
• Mastercard announced a $1 billion buyback
• HP announced a $10 billion buyback after announcing that they already repurchased over $3 billion worth of shares this quarter
• Bloomberg reported that Microsoft is about to issue debt to fund share repurchases.

There has also been some cash M&A activity and credible reports that there is more in the pipeline. At the same time portfolio managers have de-risked, leaving fewer people to sell. I believe that portfolio managers are now on the chase but still have plenty of room to buy before they are no longer underweight equities.

A slowing economy will eventually effect corporations cash flow but it will not happen as quickly as in the past cycle. There is simply not as much overcapacity and excess inventory to cut as companies are already running pretty lean.

This leaves investors at a tricky juncture where stocks are not terribly attractive based on valuations or the economic outlook but supply and demand characteristics are favorable.While I took a very small step to the short side yesterday, mostly because of short term considerations, I believe it pays to wait until portfolio managers once again turn optimistic and raise their equity allocations before taking on large short positions.