Subject: Re: S&P overvaluation
The following is from my online broker’s newsletter.

DJ Why You Should Pity The Poor Money Manager, Just Once -- Barron's


By Allan Sloan

It isn't often that I feel sorry for people who make millions of dollars a year handling stock investments for hedge funds and institutional funds. But this is one of those rare times.

Why do I say that? Because these days, with stocks at prices that strike many people as irrationally high, investment mavens at hedge funds and institutional funds who are uneasy with the market's level have a difficult problem -- one that may pit their personal financial interests against those of their investors.

And this problem may help explain why stocks keep making new highs and the market's price/earnings ratio keeps climbing despite a slowing economy, stubborn inflation, and President Donald Trump's ever-changing, erratic policies.

Let me explain.

If you are knocking down a seven- or eight-digit annual income for managing the stock portfolios of a hedge fund or institutional fund, and stock prices strike you as being way too high, you may be taking a serious risk to your personal finances if you decide to make substantial stock sales and put the proceeds into something less volatile, such as cash or short-term Treasury securities.

Why do I say that?

Because if you are running a hedge fund or institutional fund and stocks keep going up after you've sold them -- which could well happen -- you run the risk of having some major investors cash out because they're angry about missing out on the profits they would have made had you not sold. If that happens, the income you get from running your fund, which is based largely on its size, will go down.

If you think that is a ridiculous thing to worry about, let me offer you some history involving trader Michael Burry.

Burry, who as you may know is the subject of the book and movie The Big Short, opened a hedge fund in 2000 and attracted big investors by showing terrific results trading stocks. But in 2005, he decided -- rightly, as things turned out -- that securities based on subprime mortgages were priced far too high. So, he began to divert some of the fund's money from stocks and began to short subprime-mortgage securities.

When he told his investors what he was doing, significant amounts of money fled his fund. Ultimately, of course, Burry came out way ahead on his bet against subprime-mortgage securities. But the lesson that many people -- especially money managers -- take from Burry's history is how very risky it may be to your income to change strategies radically when you have clients who can withdraw their money with little notice.

I tried to talk with Burry about his history and to see what he thinks about the current stock market, but he declined, via email, to discuss those topics with me.

A far more prominent -- and much larger -- investor, Warren Buffett of Berkshire Hathaway, has said that he is highly skeptical about current stock price levels. Berkshire's balance sheet says it all. As of June 30, the company owned a staggering $339.8 billion in cash and short-term Treasury securities.

This cash poses an interesting problem for Greg Abel, whom Buffett has picked to replace him as Berkshire's chief executive next year. Abel will have to figure out whether to do something with that cash or whether to let it keep piling up.

The seemingly irrationally rising market also poses an interesting problem for money managers who, unlike Buffett and Abel, need to worry about investors fleeing if they begin to replace stocks with less-risky investments -- and reducing managers' income as a consequence.

Please understand that I'm talking about managers of hedge and institutional funds, not managers of retail-oriented mutual funds.

Retail funds generally confine themselves to a single asset class, such as stocks or bonds. So, these funds almost never make large, sudden changes in their asset classes. And the funds' retail investors generally aren't trigger-fingered the way some major hedge fund and institutional fund investors are.

Obviously, I can't prove that hedge and institutional fund managers' concerns about the impact on their own incomes if assets flee is one reason that they aren't dumping their stocks en masse. But I am quite sure that it plays some role, conscious or unconscious, in the way that they manage their portfolios.

That's why I feel a little bit sorry for the high-income types who manage money for hedge and institutional funds. They have a choice between risking some of their own incomes to reduce possible risks to their investors or keeping investors' assets heavily in stocks and simply hoping for the best.

Because nothing in the stock market is forever, sooner or later some six-sigma-type event may well put enormous downward pressure on stock prices, prompting hedge and institutional funds to sharply reduce their stockholdings to meet surging redemptions, minimize risk after the fact, or both.

But until then, I can't help but believe that we're unlikely to see massive sales by these funds -- which, I suspect, is one reason that stock prices are remaining at such giddy highs.

Full disclosure: My wife and I own Berkshire Hathaway stock.