A lot of investors seem to have a fear of missing out on the equity bull market. It seems as though every day delivers another all-time high for nearly every stock market around the world. The last time the S&P 500 was more than 5% away from its all-time high is but a distant memory from mid-2016. Since then there have been enough investors with FOMO that there hasn’t even been a real dip to buy…which just makes FOMO even worse! It’s a vicious circle.
Of course there are also fundamental reasons for the equity rally. Stronger than expected global economic growth, solid earnings growth and a Goldilocks environment that has lasted longer than most investors had expected; all good reasons for higher equity prices. But the change in investor sentiment over the past year from ‘cautiously optimistic’ at best to FOMO has also played a big role in the rally.
The wave of sell-side 'Outlooks for 2018' landing in my inbox at the moment are a good indicator of how optimism has increased. I remember the Outlooks for 2016 to be remarkably subdued, typically predicting flat or low single-digit equity returns. The 2017 Outlook vintage had become somewhat more optimistic with most forecasts of high single digit returns. Forecasts for 2018, however, have been firmly in double digit territory.
A more quantitative approach paints a similar picture of a bullish FOMO investor mind-set. Even if our analysis puts a greater weight on some sentiment indicators than others, it is striking that almost all indicators we track show investor optimism has increased over the past month and even year.
A FOMO market doesn’t have to implode. Bullish sentiment can last longer than you think and can be washed out with a modest correction. Back-testing the predictive powers of various sentiment indicators confirms that bullish sentiment is of little use in micro-timing markets. Rather, they weigh on expected returns over a one-year time horizon. Bullish sentiment makes markets more vulnerable to something going wrong, but it still takes a catalyst to trigger a correction. In the absence of such a catalyst the fear of missing out remains as strong a driver for equities as it has been.