Why Investor Sentiment Is Still Bullish in the Face of Lackluster Economic News

The equity market continues to trade while hanging on the Federal Reserve’s every word. There continues to be buoyancy in investor sentiment, and it’s flying in the face of what can only be described as modest earnings results so far. And the fervor that institutional investors have to be buyers in this market remains unabated, thanks to the Fed’s policies.

There’s been a positive take on economic news lately, even if the data is below consensus. There has also been some decent news from individual companies that can be thought of as Main-Street gauges on the U.S. economy.

Costco Wholesale Corporation (COST) reported a solid eight-percent gain in total sales—six percent on a comparable sales basis—for the five weeks ended July 7, including fuel and foreign exchange.

Investor sentiment is strong enough among large investors to continue buying in this equity market, so long as there is stability from the Federal Reserve and earnings results meet consensus.

It is a peculiar environment not to have had a meaningful retrenchment in the equity market. While the Street (and I) totally expected a healthy correction in share prices after the January breakout, it didn’t happen.

The market did have a small pullback on wavering investor sentiment, but I think the equity market overreacted and misinterpreted the Federal Reserve’s statement regarding quantitative easing. Recent minutes from the central bank meeting made note of this.

Investor sentiment among individual investors still seems very reluctant. There have been new cash inflows dedicated to stocks, but a lot of investors are wary of buying in an equity market that is trading right around its all-time high.

Of course, that is how the stock market has performed historically: long periods of consolidation are met with a breakout and subsequent bull market in anticipation of economic acceleration.

The equity market continues to be very much a leading system of speculation regarding earnings and general economic growth.

Investor sentiment is very different than investment risk, and it is worthwhile separating those two factors in terms of shaping your market view.

In an environment of extreme monetary assistance to capital markets, investor sentiment is emboldened. The result is a substantially rising stock market in the face of only modest revenue and earnings growth.

With the certainty from the Federal Reserve regarding continued quantitative easing, it is very possible that the equity market could keep right on ticking higher until the end of the year for a major double-digit gain.

Investor sentiment among institutional investors is so influenced by monetary policy, that we even have days when the equity market goes up substantially on bad economic news. The idea is that bad data increases the likelihood of continued quantitative easing and artificially low interest rates, which boosts investor sentiment. It really is an outrageous set of circumstances. (See “The Few Sectors That Will Continue to Gain in This Unpredictable Market.”)