The U.S. stock market recovered from the March bottom so fast that many wealthy investors are not sure what move to make next. Millionaire investors are more upbeat about the market and economy than they were one quarter ago. The Dow Jones Industrial Average and S&P 500 just completed three consecutive weeks of gains. But as coronavirus cases have continued to increase in July and polling has showed increased support for Democratic presidential candidate Joe Biden, many among affluent investors remain unconvinced that they should continue to add risk in stocks.
“From a sentiment perspective, people are still not sure it will last, still trying to figure it out and the last few months things have really risen considerably, the risk assets,” said Mike Loewengart, chief investment officer at E-Trade Financial’s capital management unit. “Given what’s transpired they are still optimistic, but cautious.”
Bullishness among investors with $1 million or more in a brokerage account they self-manage was up 13% from last quarter, according to the latest E-Trade Financial investor survey, from 41% to 54%. And these investors are more likely to remain convinced in the strength of the rise in U.S. stocks, with 43% saying the third quarter will end in the green for the U.S. market. The percentage that think stocks will drop fell from 57% last quarter to 42% now. But the percentage of wealthy investors who said they would be moving out of cash and into new positions dropped, from 24% to 7%, according to the E-Trade survey.
The TIGER 21 investment club for ultra-affluent investors has seen cash levels among its members hit an all-time high. These investors have tended to prioritize private equity and real estate over the stock market, with only 21% of assets in U.S. stocks. However, Michael Sonnenfeldt, founder of TIGER 21, said something “remarkable” happened in a June poll of its members when they reported raising cash levels up to 19%.
“I can tell you statistically that this is the largest, fastest change in asset allocation in more than a decade we’ve been doing it,” Sonnenfeldt said.
These ultra-wealthy investors have never had less than 11% in cash going back to the financial crisis, but he added, “Nothing forced them to have more or less cash and in just three months of Covid they have gone from 12% to 19%, like a four-sigma event.”
Loewengart said spikes in new cases across the country are weighing on investors, but the market continues to rise, creating a contradictory set of information for investors to digest. “They see the market continues to run and it is still being conducive for risk assets because of the policy response, but they are seeing a health crisis roar along. It’s no clear picture and we know when they don’t have a clear picture, they default to caution,” he said.
From huge buyers to net sellers
The gains investors made as the stock market rebounded from its nadir in late March — when all of the gains from the Trump presidency were wiped out — to being back near a record high in the Dow, have resulted in many hitting the pause button.
“Between February and April 15, we were net buyers of equities in a huge way,” said Bruce Weininger, principal and senior financial advisor at Chicago-based wealth management firm Kovitz.
For investors whose portfolios had been rebalanced to target allocations after the selloff and sharp rebound by late April, Kovitz has “been doing more selling than buying,” Weininger said. That’s not a market call, but just long-term investing discipline, which compels the firm to buy low and sell high.
“The clients I am talking to the most are worried and they are very confused, seeing that the market has gone way up, and there doesn’t seem to be justification from the economy, where things aren’t great,” said Michael Prendergast, director at New York City-based Altfest Personal Wealth Management.
This week, J.P. Morgan chairman and CEO Jamie Dimon provided a warning about the future path for the U.S. economy.
The message Altfest has been conveying to clients is to expect volatility will remain in the short-term. “They are happy the market has gone up, but not sure it will last,” Prendergast said. “We have clients talking about reducing allocations because they don’t feel confident … some just keeping cash on the sidelines because they are really unsure,” he said.
The majority of millionaire respondents to the E-Trade survey (56%) said they were making no changes to their portfolio allocations this quarter, up from 42% in Q2. And amid a stock market rebound that has been notable for the surge in trading from younger investors and new day traders on platforms like Robinhood, there has been a notable decrease in millionaires who say their risk tolerance has increased as a result of the pandemic, with only 16% of those managing more than $1 million in investments indicating they are taking on more risk now. That is versus 28% of the general investing universe ($10,000 or more in a brokerage account) that cited greater risk appetite because of Covid-19.
The E-Trade Financial quarterly survey was conducted July 1 to July 9 and included a sample of about 900 self-directed active investors with at least $10,000 in assets — the millionaire data subset provided exclusively to CNBC includes 167 investors with $1 million or more of investable assets.
Stock valuations
Weininger said while a long-term view of markets and investing decision-making is always No. 1, sentiment among clients is a factor right now, and it ranges from “cautious to fearful.”
“I don’t have more than a handful who I would say are bullish about things,” the CFP at the $5 billion wealth management firm Kovitz said. Concerns that the market is pricing in a V-shaped recovery, which is looking less likely based on the recent Covid-19 new cases trend, have led to a lack of investor conviction about the U.S. stock market’s valuation.
Forty-six percent of investors in the E-Trade survey said they were worried about the presidential election’s impact on their portfolio, more than those worried about a recession (35%) or the coronavirus (35%). Both of those fear factors fell by double-digit percentages quarter over quarter.
Loewengart said the election fears are a reflection of how important federal policy, from the Trump tax cuts to the Fed and the recent Covid-19 stimulus, has been to the stock market. However, he and other experts said it is the one big fear that investors should throw out.
“When we consider who is better for the economy, the GOP or Democratic Party, there is no clear-cut answer. Market performance relative to elections, there is no clear-cut decision,” the E-Trade official said.
Some investors are looking at the likelihood of the Democratic Party sweeping all three branches of government and taking a more cautious stance as a result. Weininger said that is a real phenomenon, but it is the easiest to dismiss as an investor.
“Don’t let politics get in the way of money,” he said. “There is no evidence Republicans are better for investments. … If you let politics drive investment decisions you will have bad results. We’re happy to take on that argument, but on valuation, not a lot looks cheap to us.”
At TIGER 21, election uncertainty comes up in “virtually every meeting,” Sonnenfeldt said. There are real issues with the potential to influence short-term market performance, from changes in personal, corporate and estate taxes to climate policy with radical differences and income disparity, but betting on a presidential outcome makes less sense than hedging, he said. Betting on an election outcome implies taking much more risk, and the wealthy investors he knows look at that as a “foolish” bet.
Interest rates and bull markets
Weininger said even though he can come up with a long list of reasons why the market is overvalued and pricing in a “too rosy scenario,” when you look at the Federal Reserve taking interest rates back to near zero, that alone does justify a higher market value. “If you are using rates that are half of what they were even two years ago, and a third of what they were 10 years ago, to discount future cash flows, it is perfectly reasonable to assign higher values to these businesses if you believe rates will stay lower for longer,” he said.
Growth stocks trading at prices commanded by the top S&P 500 technology holdings assume rates remain very low, and if the rate environment changes, “there is nothing that says Microsoft can keep growing at the same rate if interest rates are up two to three percent,” said Weininger. “Growth stocks are more affected by good and bad changes in interest rates.”
This is a bigger element for investors to watch than who is president, said Loewengart. “If lenders throughout the world, the ones who hold our debt, think our revenue is not significant enough to service our debt load, that would put additional pressure on policy makers to raise taxes, and if we see that pressure on rates, that to me would be the bigger force to changing fiscal policy than who is in office,” the E-Trade official said. “We’ve seen the deficit expand considerably … it could create a situation where investors and lenders to the U.S. have pause.”
A change in the rate environment is among the mid-term fears that market experts are now weighing more heavily than an election or hard-to–evaluate Covid-19 vaccine race. They know that the Fed control over short-term rates is not absolute control over the rate environment. “Intermediate and long-term rates are driven by investors being willing to buy those bonds, locking in 2 percent for 20 years as the best thing they can do. If and when investors get scared about inflation … it can happen quickly,” Weininger said.
And that would mean trouble for stocks. “That active printing of money to service debt, if needed, is inflationary at some point. … The risk of high rates could meaningfully affect valuations of equities and the multiples people are willing to pay,” he said.
Technology and health-care sectors
The E-Trade survey found majority support for only two sectors of the market: health care and technology. Seventy-one percent of millionaire investors said they expect health-care stocks to perform the best this quarter, while conviction in tech stocks surged back, from 39% of investors who said in Q2 tech stocks would do best, to 59% this quarter. These were the only two sectors where the survey found majority belief that a strong rise will continue.
Part of this is likely performance-chasing — health-care stocks hit an all-time high last week —and there is reason to be cautious on tech stocks given the run.
Financial advisors say Apple makes the best case for a value stock among the trillion-dollar tech leaders, and the massive run in top tech stocks can be seen in Warren Buffett’s stock-picking universe, with Apple now representing 40% of Berkshire Hathaway’s equities portfolio.
Loewengart said health-care has always been a defensive sector play for knowledgeable investors and now it looks like technology is assuming a similar role, with a perceived defensive nature. That is a change from recent years when tech was more of a momentum play, but the revenue the top tech companies continue to generate and the performance during the pandemic are leading to a change in investor perception.
