Even though the market has been enjoying steady gains since late August, there are signs that these gains have not come from traditional demand. We all remember from our Econ 101 textbooks that a price is set when supply intersects demand. Prices set by the stock market are thought to be efficient and reflect an accurate measure of supply and demand. But can we trust a market where most of the volume is concentrated in just a few stocks. Yesterday, 3 stocks (GM, C and F) represented 15% of the shares traded. Outside of these stocks, volume is often dominated by the ETF’s like SPY, QQQQ and EEM. Also, most days have very similar chart patterns to yesterday where most of the action is dominated in the first and last hour of trading and the rest of the day is one, giant flat line.
The demand problems are evident in the weekly outflows of money in domestic equities and the lack of IPO’s. Let’s look at each issue:
1) Since the Flash Crash, there have been 28 consecutive weeks of domestic equity outflows where $80 billion has exited the equity market (ICI Report) .
2) There have been only 127 IPO’s priced this year in the US. This compares to over 500 IPO’s per year in the pre-Internet bubble days. Of these 127 deals, 53 are trading below their offer price (See IPO Scoop Report Here). Last night, Harrah’s Entertainment delayed its $532 million IPO due to lack of demand. Many of the deals that we have seen this year have been companies that are owned by private equity firms or foreign owned companies. These are not companies that are showing organic, domestic growth. And then of course we have GM. Was that real investor demand or was it just short term traders buying and flipping to high frequency traders?
Markets that are not built on fundamental demand from long term investors are subject to cracks like we saw on May 6th. When shocks like sovereign debt problems hit the market, the lack of real demand is exposed and a market which is not structurally sound can produce violent reactions.