Many of the meetings we have had with clients and prospective clients over the last month or so have shared two common questions. Obviously, we do not meet with all clients every day. As well, we know that in a group of people if one person has questions, it is likely others have the same questions. The following are the two most common questions we are hearing from clients regarding the markets:
How can the stock market be moving up as the global economy flounders?
The short answer is economic stimulus. Over the last four years, one can look at charts of the market and see definitive points where the market goes from a downtrend to an uptrend. It is no coincidence that these same turning points coincide with a central bank(s) stimulus effort. Conversely, we see stock markets weaken when a central bank hints at stopping its stimulating efforts.
If we turn our focus on the US, we see that the first stimulus (QE1) came with a lot of hope and moved stocks up, held interest rates down, but did little else to boost the economy. The second stimulus (QE2) was anticipated as the economy was weakening, though it still came with hope of an economic boost. QE2 lifted stocks once again, kept rates down, but did little else. The current Operation Twist was very much anticipated. After two rounds of stimulus, it became obvious that a floor would be put under the investing markets.
Now, if we widen our perspective we see that, today, the overwhelming majority of the global economy is in a funk or worse (e.g., a depression like Europe’s southern nations). At the same time, nations are taking on more debts to prop-up weak nations, and banks or broad economies are becoming a political hot potato as desired results are not coming.
The one definitive result of stimulus from central banks has been rising stock markets. In the last few months, we have had endless rumors and hints of stimulus from Europe and the US. Global investors have been trained to come running when the stimulus bell rings. Now, investors are front running the central banks as they know that the global central banks are pinned into a corner and must stimulate, lest the markets and economies contract. So, here we stand with an ailing global economy and investors moving into markets in anticipation of more stimuli – which will happen once one of the global central banks (US, Europe, or China) stops playing chicken and stimulates. While a rising stock market is good, it would be better and more likely to stick if it were based on sound fundamentals. In conclusion, we cautiously welcome rising stocks and hope for better fundamentals to underpin the rise.
What is the short- and long-term outlook for the market and economy?
In the short-term we fully expect that one, if not all, of the global central banks (US, Europe, or China) will have to step back in and start-up another round of economic stimulus. As we noted above, and in previous commentaries, this will likely provide some lift to stocks. We would be remiss to go on further than to say economic stimulus will likely lift stocks. Beyond that, we think the sheer number and size of the risks to the global economy – from a Chinese slow down, to the banking and sovereign crisis in Europe, to the tensions in the Middle East – all point to caution.
In addition, all of the US Fed’s stimulative efforts have lifted stocks, but are providing diminishing returns. So, we may see some short-term lift in stocks only to be looking for another economic prop in eight to ten months from now.
In the long-term, we have both a pessimistic and optimistic outlook. Our dual outlook is driven by the continuing build-up of debts that will have to be addressed. As stated in the June Market Commentary, it is our opinion that in the next five years the most successful investors will be the ones who avoided the big market downturns and protected their capital. Once global economies and financial systems clear the bad debts (which will require some short-term pain), the next great investing bull market will take place. This will be a point where great fortunes can and will be made. The key will be ensuring that you have the capital to deploy when you can make investments of a lifetime. It is important to remember that while the Great Depression was an awful period in history, great investment opportunities were presented in its aftermath. But only those who protected their capital during the period had capital to invest afterward. Those that took untimely and unnecessary risk were wiped out and could not participate in the once in a lifetime investment opportunities that followed.
Do you have an investment strategy that seeks to protect your portfolio against volatile economic conditions? Call me to schedule a free review of your current investment portfolio – 913.402.6099.
John P. Chladek, MBA, CFP® is the President of Chladek Wealth Management, LLC, a fee-only financial planning and investment management firm specializing in helping families and couples who are not yet retired realize their financial goals. For more information, visit http://www.chladekwealth.com.