As everyone in the U.S. markets is now contemplating more interest rate hikes in the coming year, it is widely believed that the Federal Reserve will raise rates at least twice more in 2017. Anything more than that would be overkill and create problems for the markets.
The Fed, of course, would never have considered moving so fast during the Obama administration, but it is a new day. Though this agency has been politicized in recent years, I believe that they are smart enough not to do anything that could slow growth too much. In the end, it is likely that these probable interest rate hikes are already factored in to the market’s valuations.
All this is happening at the same time European central banks are continuing down the path of easy money. It’s hard to see how this has been a stimulus for the European economy, but they are likely to continue doing the same thing. They have little ammunition to attempt anything else, with the exception of going deeper into negative interest rates.
Economic Growth
Because we are seeing record market highs, and are likely to see them continue for the rest of the year, it is extremely unlikely that traders will be selling (even to take profits) so that they can maintain good returns in their portfolios for 2016.
After President-elect Donald Trump’s inauguration, it may be a bit of a different story. We have not seen valuations like these since 2000, and way back in 1929. One could argue that, in both cases, this followed overheated economic growth and a correction was needed.
But today is unprecedented; we have no history to indicate what might happen when consistent market gains come on the back of false positives created by central bankers and governments.
Positive Indicators
We are entering an era of real positives because of the prospects of organic growth in GDP and in our economy. But, nonetheless, this creates market growth despite already-overvalued stocks. Something must give. Either we see a correction in prices, or traders pausing—not necessarily selling—with the likelihood that growth will catch up to allow stock values to come more in line with reality. Tax reform is another possibility.
If there was ever a time not to attempt to time the market, it is now. Even if we see pullback from these very high levels, the pro-growth policies and agenda soon to come to Washington are likely to spur consistent growth in the economy, with real GDP growth. Tax reform alone could lead to a 15 to 20 percent increase in company earnings, and that would go a long way in taking care of high valuations. All of these things will obviously lead to corporate growth.
Recovering stock prices are based on solid fundamentals of the economy. This is not the case in the era immediately behind us, where a correction in the market could mean anything from prolonged stagnation to a depression, based on the leadership in Washington.
I have to believe this will change. Even those who haven’t had a backbone in 10 years might begin to realize that they will need to step up to the plate or get out of the game.
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