If you want to know which direction the stock market is going, just look at it. It will tell you.
That’s why the best-known mantra about market direction is: The trend is your friend.
If the trend is up, you buy more stocks. If the trend is down, you take cover or sell stocks.
Since 2009, the trend has clearly been up, up, and away. In fact, since the bull broke free from the bear’s claws in March 2009, the S&P 500 is up 200%.
And since the election of Donald Trump, the grade of the uptrend has gotten steeper with markets setting new all-time higher highs.
Another Wall Street mantra is: The trend is your friend until the end when it bends.
And that’s the problem right now.
Investors looking at the long, long uptrend are scared the election of Donald Trump as America’s 45th president precipitated a final push higher and that now we’re facing the bend that ends up breaking the back of this old bull.
I laid out my bullish case and why markets can double in a few years here on Wednesday.
The Biggest Obstacles in Our Way Right Now
The two hurdles right in front of us are the inauguration of President-elect Donald Trump and the confirmation process his cabinet nominees will be subject to.
Inauguration Day is Friday January 20, 2017. Donald Trump takes the oath of office at 12 p m Eastern Standard Time at the U.S. Capitol, officially marking the peaceful transfer of power at noon from the outgoing to the incoming elected president of the United States of America.
Given the demonstrations, protests, and downright anger over the election results, there’s a possibility the Inauguration could be marred by protesters on site, and possibly protests around the country. If protests turn violent or disruptive enough, they could frighten investors over the weekend into taking profits on Monday. That’s a stretch, which is why it’s only a hurdle to the bull’s march higher.
The other market hurdle right in front of us is the whole process of confirmation hearings and the gauntlet the soon-to-be President’s cabinet nominees will have to traverse.
The last push higher for stocks, since the election, has been about optimism and expectations that President-elect Trump’s proposed policies (such as: tax cuts, fiscal stimulus and deregulation) will generate corporate profits, cash and buybacks in a banking environment less impeded by stifling regulations.
Markets could be prone to profit-taking if Mr. Trump’s candidates are rejected, or if the whole process gets drawn out so he isn’t able to implement policies markets are counting on, or if he’s impeded from governing because his cabinet is in limbo. While that would be unprecedented, given the bitterness Democrats feel about losing the election, they could take a stand for their constituents and wreak havoc on the smooth running of the Executive Branch.
That’s unlikely, but possible. That’s why it’s a hurdle the market’s facing.
Then there are the possible upcoming sinkholes markets are facing.
That Sinking Feeling
Tax cuts are expected. If there aren’t any, or if cuts aren’t viewed as being appropriate or stimulative, that would leave markets with a sinking feeling and could precipitate a sell off.
Fiscal stimulus sounds good. Rebuilding America’s infrastructure is necessary. Creating good paying jobs for workers doing all the work that’s necessary would be a huge positive for the economy. But fiscal stimulus isn’t a slam dunk.
How the new administration proposes to pay for enough stimulus to make a difference in economic growth, without blowing up the deficit, is a serious concern. The Obama administration promised millions of “shovel-ready” infrastructure fixing jobs to spur economic growth, and nothing happened. If there’s no immediate push towards meaningful fiscal stimulus, markets would get another sinking feeling.
All the talk about deregulation has been a boon to stocks. Prospects that burdensome environmental, energy and banking regulations, will be cut back or eliminated makes corporations salivate. They make investors hopeful that reduced regulatory burdens will get quickly translated down to the bottom line and help lift share prices.
But, regulations, even if they are burdensome, aren’t all bad. Clean air and water are as important as economic growth and rising stocks. And deregulating banks that have a history of blowing up the economy and markets isn’t a smart idea if their greed gets the better of them.
Markets are counting on a deregulatory push, which won’t be an easy sell in Congress. If the clearing investors expect remains guarded enough to corral higher profitability expectations, that’s going to engender another sinking feeling.
The biggest sinkhole markets face is themselves.
They’ve gotten ahead of themselves. The rise since November 8, 2016 took the forward price-earnings multiple (PE) on the S&P 500 up one full percentage point to 17.6, according to Thomson Reuters. That’s 17.3% higher than the long-term average of 15. But that’s forward earnings expectations coming from analysts, who are usually way off. The actual, or trailing earnings for the S&P 500 for 2016, meaning what the companies in the index earned vs. the price of the total index, was a whopping 24.82. That’s only 65.5% higher than the historical average.
Earnings matter. Not only are forward earnings estimates going to be hard to meet, they face a huge headwind from the rising dollar, which is up 5% just since the election. Every 5% increase in the dollar translates into a 3% earnings hit for the S&P 500, and a half point drag on domestic GDP growth.
Unfulfilled earnings expectations could be the sinkhole most likely to derail the charging bull.
And, of course, there are always black (more accurately, grey) swans out there, and we know what some of them might look like.
Somewhere over the horizon are nesting problems that include: the European Union breaking up; capital outflows from China and the collapse of its currency; currency wars; regular wars; and all the true black swans we don’t know exist.
Those hurdles, sinkholes and black swans are why I’m worried, though I know that since 2009 the likes of all these worries have been steamrolled by the raging bull market.
So, I remain optimistic and bullish… until the trend starts to bend and comes to an end.