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Equity inflows feeling like 'renewed outbreak of nihilism'

More Wall Street strategists are getting increasingly bullish on the stock market with S&P 500 (^GSPC) point targets of 5,000 in 2024. Simplify Asset Management Chief Strategist Michael Green tells Yahoo Finance that inflows into equity assets don't "feel like a renewed outbreak of optimism" as traders become overinvested to cover short positions.

"Most people that are in this situation will acknowledge that a lot of this is simply a function of mechanical flows that are either occurring due to passive investments or systematic and algorithmically-driven strategies — there's very little thought that seems to be going in," Green explains.

For more expert insight and the latest market action, click here to watch this full episode of Yahoo Finance Live.

Video transcript

SEANA SMITH: What's your assessment in terms of how we're set up heading into the final five trading weeks of the year and what that then will tell us about some of the momentum that we could see from markets in 2024?

MICHAEL GREEN: Well, I think you nailed it when you hit the topic of renewed flows into the equity markets. In particular, we've seen a tremendous number of portfolio managers that had expressed relative caution. And I would actually highlight that the flows appear to be coming from institutional and you know, registered investment advisors. There doesn't appear to be a component that's coming from individuals as much as it is.

People who had been relatively cautious in their portfolio construction are now being forced to cover their shorts. We see that as positive flows. Even though that money is already in the market, it was simply sitting in cash or cash-like instruments.

We've moved from an underinvested position to what increasingly looks like a potentially overinvested situation exactly as you described in the February 2022-type framework. This doesn't feel like a renewed outbreak of optimism as much as a renewed outbreak of nihilism in which people are simply saying, man, I don't know.

BRAD SMITH: And what would you attribute kind of most of bears being out of their league too? Is it perhaps-- and what we've heard at least coming into this week is that for anyone who's still calling for a recession, you're starting to sound like the boy who cried wolf. Is that the case here? Or is there something else at play?

MICHAEL GREEN: No, I think that's absolutely the case. And you know, I think what we have seen broadly, you've seen Jim Chanos shut down Kynikos. You've seen Dan Loeb announced that he's stopped shorting. You've seen David Einhorn announced that he's gonna stop shorting, right? We've seen these behaviors over and over again as people have simply said, I can't understand what's driving markets higher.

Most people that are in this situation will acknowledge that a lot of this is simply a function of mechanical flows that are either occurring due to passive investments or systematic and algorithmically driven strategies. There's very little thought that appears to be going in. We're seeing a market that's increasingly just dominated by these mechanical implementations.

SEANA SMITH: So, Michael, how should-- break this all down then for investors in terms of investors trying to position their portfolios heading into the new year. What should they be favoring?

MICHAEL GREEN: Well, I think this is an interesting opportunity where thoughtful retail investors in many situations are at an advantage versus their peers in the institutional space. They don't actually have a required allocation.

So if I give money to a credit manager, they're going to have to put it into credit. If I put money into a Treasury fund manager, they're gonna have to do it or if-- like, roughly 94% of Americans at this point, the vast majority of my retirement flows are going into something like a target date fund in which nobody's making an allocation. It's simply being applied in a proportion to what a historical model would suggest, given my age.

You have the chance to actually change that and be thoughtful about the extraordinary change in yields that has been created and reallocate portfolios in a thoughtful manner that meet your investment objectives rather than simply something that's tied to historical return profiles.

So I would encourage people to take a look at the radical change that's occurred in interest rates over the past 18 months that the Federal Reserve has actually told us are unsustainable and designed to slow the economy. And yet ironically, people have really not tried to change their allocations, particularly on the institutional side because of the rigidities that are built into the system today.