Trader’s Narrative

At the beginning of the year we looked at the long term trend of IPOs and how they track the speculative impulses that run through the stock market. If you missed it, check out the historical chart of IPOs.

Last year’s bear market completely shut down the initial public offerings and took the number of companies going public to lows that we hadn’t seen since 1978. Depending on what criteria you use, we had about last year we had between 20 and 43 IPOs. Although the year isn’t over, it looks like we are set for a quiet recovery. So far, about 67 companies have amended their existing filings or registered to go public. More than half of them coming after the March low in the stock market.

Here is a chart of the IPO market for the past 20 years:

Source: Bloomberg

There is no sign that we are about to revisit the speculative frenzy that we saw accompany IPOs in the last bull market. That kind of speculative sentiment takes time to generate and the current IPO market is merely returning to ‘normal’ after the shock of the financial crisis. If anything, the IPO landscape going forward will be more selective and opportunistic.

Secondary Market
While the primary market is returning to normal, the secondary issues market has roared to life as companies rush to recapitalize and heal their damaged balance sheets. Just this week more than 15 US companies announced plans to issue more shares for a total of $7 billion. The largest chunk of that comes from Barrick (ABX) who is removing their infamous short position against gold. The same is true around the world. Lenovo and Alibaba both will place shares in Hong Kong. As well Cemex, the Mexican cement giant, will issue $1.8 billion worth of shares.

IPO Pipeline
Here is a chart of the quarterly IPO pipeline for issues filed, priced, and withdrawn:

There is a limited history shown but you can see that the activity in the IPO market in the past few quarters has mirrored closely what we saw in the bear market that followed the tech bubble. Around the same time that the stock market stabilized in late 2002 and early 2003 and again in early 2009, the number of IPO withdrawals increased, filings and pricings dropped to a trickle.

Here you can read the recently released report on the third quarter IPO outlook from Renaissance Capital. If the link doesn’t work, you can also find it at the Free Trading Resource section of the blog (in the Reports folder).

A quick summary of all things sentiment-wise for the stock market this past week:

Sentiment Surveys
The mind set of the retail investors as measured by the weekly AAII sentiment survey shows little change. We had an increase of 7% points for the bearish camp to 46% and a decline of 6% points for the bulls to 33%. Which is not very helpful as it leaves us mired in “no man’s land” - exactly where we’ve been for the past few months.

In contrast, the Investors Intelligence weekly survey of newsletter editors continues to be dominated by optimism. This week we had a small reduction in the bullish camp to 44.8% and a small increase in the bearish camp to 26.4%.

Bond Bears
For what is happening in terms of sentiment in bonds, check out the post from a few days ago: bond sentiment.

Options Sentiment
CBOE put call equity ratio: We got a slight ‘blip’ on Thursday (June 17th 2009) when this ratio hit 0.88. That’s not even close to a level which would get any contrarian excited. But it is the highest level of fear shown in this indicator since early March 2009. Keep in mind though that this trusty indicator has been firing blanks throughout this bear market.

ISEE Sentiment index: the equity only call put option ratio from the ISE reached a low this week we haven’t seen since November 2008. Remember, this is inverse to the usual put call ratio so a large number denotes optimism and a low number fear. On Thursday the ISEE Sentiment index reached 92 (meaning 92 calls purchased for every 100 puts purchased to open a retail options position).

This dovetails with the technical indicators that are also showing a very short term oversold condition in the market. The key is how the market reacts as a result: will it use it to bounce strongly higher? or collapse lower in spite of it?

Secondary Market
The doors of the IPO market have been shut tight for many months now. And although we are seeing the door budge open again slightly, the real action has been in the secondary market.

According to TrimTabs, last month saw a record shattering $64 billion dollars of IPO and secondary market offerings combined. To put that in perspective the previous monthly record was just $38 billion. While TrimTabs didn’t provide a sector breakdown, I suspect that most if not the vast majority of the record issuance was in the financial sector.

Historically, there is an inverse relationship between the primary and secondary market activity and forward market performance. This isn’t surprising since at the heart of the market, once you remove all the noise, is a simple supply and demand equation. There are a finite number of dollars chasing a finite number of shares. If you tip the balance in one direction, the market will react eventually.

According to two methods of analysis (from TrimTabs and Ned Davis Research) we are seeing a historical extreme that has only been seen before quite rarely. For more details, check out this article by Mark Hulbert. My only criticism of this analysis is that they use nominal numbers instead of ratios.

Since the market generally rises over time (recent history excluded), it isn’t helpful to compare the secondary market in say 1998 in dollar terms to that of today. The way we can equalize it is to look at the ratio of the secondary market to the total market (for example, the total equity value of the S&P 500). In this way we can easily compare across decades and get a more accurate idea.

This criticism notwithstanding, since the other extreme readings come from relatively recent years (2000, 2008, etc.) we can conclude that a ratio analysis would yield little improvement. The conclusion stands that Wall Street is suddenly awash in ‘paper’. I’m sure some will come up with conspiracy theories of this spring rally being rigged to allow for the recapitalization of the ailing US banks. But remember what Ben Graham said about the stock market: “In the short run it’s a voting machine, but in the long run it’s a weighing machine.”