According to Bloomberg News, the smart money is plowing cash into stocks right now. Hedge funds added 21% to their stock stakes, totaling $604 billion, in the third quarter. Meanwhile, individual investors (who account for 82% of mutual fund investors) withdrew money from stocks -- pulling $37.3 billion from U.S. mutual funds since August.
What are hedge funds buying? A Goldman Sachs Group (GS) analysis indicates that Pfizer and Apple were among most popular stocks among hedge funds -- 147 owned shares in these two stocks. Pfizer is up 45% since the March 9 S&P 500 low while Apple has spiked 141%.
The latest statistics that would predict the market's direction are a jumble of contradictions. The bearish ones are as follows:
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The trailing P/E of the S&P 500 is at a relatively high 21.9 -- suggesting an over-valued market;
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At 3.51, the ratio of short interest to shares outstanding is 40% above the decade average, according to Bloomberg. This suggests that investors are betting on a correction.
On the bullish side, the last time mutual funds saw individual outflows this big was in the nine months leading up to February 2003, just as the S&P 500 began a five year rally.
If you look at the Price/Earnings to Growth (PEG) ratios of Pfizer and Apple, you might conclude that both stocks are too expensive to buy at these prices. Pfizer trades at a PEG of 1.45 on a P/E of 15.4 to earnings growth of 10.6% to $2.24 in 2010. Apple is a bit more expensive, trading at a PEG of 1.50 on a P/E of 31.9 to earnings growth of 21.2% to $9.43 in 2010.
Should you go with the smart money? If you do, a stop loss, which will force you to sell if your bet drops by, say, 2%, would make sense. That way, if you get trampled by the smart money changing direction fast, you will limit your losses.
Peter Cohan is a management consultant, Babson professor and author of nine books, including Capital Rising (due in June 2010). Follow him on Twitter. He has no financial interest in the securities mentioned.
