biz.yahoo.com
Wonder why the stock market doesn't move in the same direction with this
year's upbeat forecasts for the U.S economy and corporate America?
One possible reason: The U.S. market has been flooded with shares since the
end of the bull market two years ago and there aren't enough buyers to
absorb the flow.
"When you have less money chasing more shares, you have a bear market," said
Charles Biderman, president of Liquidity Trim Tabs, an investment research
firm based in Santa Rosa, Calif.
Today, the amount of shares floating in the market is higher than at the end
of the bull market in 2000 by $255 billion because company new offerings and
sales by corporate executives have overwhelmed stock buybacks and cash
takeovers , said Biderman.
At the same time, U.S. equity funds attracted only $82 billion since 2001,
much lower than the $247 billion in 2000, according to TrimTabs.
Those figures could go a long ways toward explaining the market's inability
to sustain rallies this year -- even as the economy rebounds and earnings
recover.
"Everybody says earnings will go up, but the market is going down," said
Biderman. That's typical, he argues, because "earnings has never been useful
in predicting which way the market is going."
Not as useful as the "liquidity" rule, which states: "If shares are growing,
that's bearish."
Using this gauge, investors could have forecast the stock market peak
reached in early 2000. At the time, earnings were still climbing and the
economy expanding, but companies were selling shares in record numbers.
Based on that trend, Biderman predicted the end of the bull market in late
1999, when the supply of stocks exceeded demand.
Market strategists say they look at the market liquidity figures -- the
relationship between the total trading float of shares in the market and
cash available for investment -- as one measure, particularly when the
economic figures are sluggish. But it's a tool that needs to be used
sparingly, they say.
"Liquidity could have influence," said Charlie Crane, strategist at Victory
SBSF Capital Management, which oversees $4 billion in assets. "But I think
far more important is the ability of companies to earn and to grow their
earnings."
Crane said that in the past such measures have been most valid when the
economy and company earnings are weak and the market lacks leadership.
"What I learned from the 1980s' market is that liquidity is an issue when
(earnings) fundamentals aren't good. When fundamentals improve, the
liquidity problem would just go away," he said.
SHARE INFLATION
The Standard & Poor's 500 (CBOE:^SPX - News) now has some 291 billion shares
outstanding, a figure about 50 percent higher than in early 1999, according
to Thomson Financial/First Call.
"Share inflation has come in forms ranging from the seemingly innocuous like
stock splits to the more insidious extravagant options awards or excessive
issuance for acquisitions," said Steve Galbraith in a recent note to
clients. "In neither instance has a free lunch been created."
There have been about 530 stock splits in the S&P 500 since 1997, a trend
that reached unprecedented levels at the height of the tech bubble, added
Galbraith.
Even excluding stock splits, telecoms services companies in the S&P 500 at
the end of 2001 had 16.5 percent more shares than three years before, as a
result of share issuance due to options or acquisitions, according to
Galbraith.
"The dilemma created by rampant share expansion is that companies and
investors now need to run harder just to stay in place," said Galbraith.
That's especially true when bad news hits and everybody tries to hit the
same crowded exits to sell the market. A market awash with shares falls
harder and faster than one with a scarcity of stock.
"When we have lots of liquidity around and some sort of bad news, the market
will be quick to react," said Donald Coxe, chairman and chief strategist at
Harris Investment Management who oversees $12 billion in assets.
COMPANIES ARE BEARISH
Trading float, or the amount of shares available in the market for buying,
shrank by $100 billion during the bull market between 1995 and 1999, but
since 2000 has grown by some $255 billion, according to Biderman.
Market liquidity is determined by both companies -- as they buy and sell
shares of their own stocks -- and investors, many of whom trade shares
through mutual funds. But analysts like Biderman focus on corporate
liquidity in predicting the market as companies know best about their
businesses.
In the first four months of this year alone, outstanding shares rose by $65
billion, a record high level, Biderman said. This is mainly because total
buybacks and cash takeovers this year plunged by two thirds from a year ago:
Weekly stock buybacks dropped by 80 percent and cash takeovers fell by a
half.
At the same time, new cash takeovers, which reduce the number of shares,
this year remain virtually nonexistent -- with a weekly average of some $600
million this year, the lowest level since 1994 or 85 percent lower than in
1999 and 2000, according to Biderman.
"At this point, corporate investors continue to look bearish and as long as
they're bearish, we're bearish," said Biderman.
WEAK CASH FLOW
Corporate stock buybacks and cash takeovers have ceased because companies'
free cash flow has been weak, due to lower corporate earnings and a
shrinkage in corporate short-term lending, said Biderman.
Non-financial commercial paper outstanding has fallen 50 percent from its
peak at the end of 2001 with many companies having been forced out of the
market after losing their credit ratings, he said.
"The commercial paper market is in serious trouble," said Coxe. "There is no
question it is hurting corporate liquidity."
In contrast to optimistic expectations for corporate earnings this year, the
liquidity theory is saying that the stock market is not near its turning
point yet.
"We've gotten to a very oversold level and sentiment has been up a bit in
the past few weeks, so we can have a decent short-term rally," said Greene,
who monitors corporate liquidity to time the market over the next two weeks
to three months.
But investors shouldn't get too excited, he adds. "Because corporate
liquidity is extremely negative, the intermediate outlook for the market is
still very negative."
"When we have more money chasing less shares, then we can turn bullish on
the mid term," said Greene.
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