There are a number of factors to consider in determining whether the stock market will continue making all time highs or consolidate in 2021. Somethings on our mind are: inflation, record monetary and fiscal policy and a no alternative mentality to equities.
The Federal Reserve is expected to keep interest rates near 0% until 2023 or 2024. This quantitative easing will keep the cost of capital lower and incentivize businesses to take more risk. The low cost of capital influences business owners to take on debt at near 0% interest rates to fuel growth or to ensure they survive a difficult business environment. We saw this during the March 2020 liquidity crisis, companies in the Aerospace and Airline industry tended to take on additional debt, rather than issue shares at distressed valuations. And by historical norms, the interest rates secured were extremely low for the amount of risk taken on by the bond holders.
The monetary and fiscal policy during the 2020 pandemic crash caused a reinflation of asset prices. The Federal Reserve and Congress “saved the day” and reminded investors that no matter what happens in the economy, they will step in and ease the financial markets. This is good in the near term for the stock market because it averts crisis, but we don’t know the longer term repercussions. We have seen stock prices reach new all time highs and reach valuations not seen since the 2000 Tech Bubble. It is hard to say if this a bubble, but what we can say is the stock market is flashing caution signs. Some red flags are stock market participation by retail investors aka “Robinhood traders”, retail traders tend to buy the top and sell the bottom. Retail investors have a tendency to buy euphoria and sell the pain. Yet this time around, many retail investors entered the market at March 2020 lows and they have timed the market perfectly. Another warning sign is “there is no alternative” to equity investments. There has never been a time in history when safe have assets yielded near 0%. This creates a risk on mood in the equity markets because fixed income investors can’t easily generate the necessary portfolio income. This means fixed income investors have been driven into stocks, dividend companies, and other higher risk assets to chase the yield they need to generate portfolio income.
During the March 2020 crash, equities, fixed income, commodities and metals all became correlated. This simultaneous crash across all asset classes is the first time I can find in history, an event where one asset class didn’t inversely react. All money has flowed to a small section of the market and this is large market capitalization technology companies. The outperformers have been Growth, Technology, NASDAQ stocks and the laggards have been Energy, Aerospace, Hospitality companies. Corporate Debt continues to increase and companies are able to issue bonds at historically low interest rates, some even negative yielding. This means bond purchasers have a belief interest rates could fall further. The only purposes to purchase a bonds like this would be to sell it for a larger market value when interest rates decline.
There are risks associated with investing in securities. Investing in stocks, bonds, exchange traded funds, mutual funds, options and money market funds involve risk of loss. Loss of principal is possible. Some high risk investments may use leverage, which will accentuate gains & losses. Foreign investing involves special risks, including a greater volatility and political, economic and currency risks and differences in accounting methods. A security’s or a firm’s past investment performance is not a guarantee or predictor of future investment performance.#Investing #Stocks #Orlando #Retirement
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