Nomura strategists pointed out that the current rally in U.S. stocks, driven by fear of missing out, is expected to continue for some time. They urged investors not to bet against the trend by shorting the market but also warned that two signals could quickly dampen the enthusiasm for chasing gains.
$S&P 500 Index (.SPX.US)$ Returning to a record-breaking upward trend, the closing price on Wednesday marked the first all-time high since January 27.
Charlie McElligott, a strategist at Nomura Securities, advises clients not to go against this current rally but highlights two potential signals that could signal the end of the market boom.
McElligott noted that this rally is extremely strong, yet it occurs against a backdrop where investors have placed minimal bets on market upside—referred to as ‘lack of right-tail risk exposure.’ He has been warning about this pattern for several weeks.
As a result, investors who were ‘over-hedged in anticipation of volatility’ caused prices of put options (instruments used to bet on market declines) to plummet, prompting large institutions to scramble to cover their short positions in equities. This triggered a frenzy of stock buying, particularly in large technology stocks.
McElligott believes that the current market uptrend can persist for some time, precisely because investors had previously maintained excessively low risk exposure.
However, this Nomura strategist warned of two factors that could abruptly halt the rally.
The first is the possibility of a ‘real economy-level energy shock starting in May, involving a substantial shortage of crude oil and petrochemical products.’
Such a scenario could drive commodity prices higher, potentially leading central banks to panic and tighten interest rates amid an energy supply shock. This introduces his second potential warning sign—a bond market sell-off. He argues that once markets begin to worry about energy shortages and rate hikes, it might trigger ‘a negative growth shock on a global scale,’ potentially pushing major economies into recession.
Once bond yields start rising, the market could be spooked, thereby halting the current momentum of chasing gains.
Notably, McElligott is not the only one concerned about potential energy supply shortages. Although $Brent Last Day Financial Futures (JUN6) (BZmain.US)$ prices have fallen by 10% this month due to expectations of a resolution to the Iran conflict, analysts have warned that the global energy supply chain is about to face a ‘stress test’ as the war has caused significant damage to industries in the Middle East.
So, what should investors do?
“In my personal opinion, before the bond market breaks out again or position chasing returns to an ‘extreme greed/panic of missing out’ state, now is not the time to short stocks,” the strategist said.
He also pointed out that, for now, “current exposure has only just begun to rebuild and is far from reaching an ‘overbought extreme.’”
Editor/KOKO
