In today’s fast-paced world, many find traditional sporting events underwhelming. A recent illustration is the Mayweather vs. Pacquiao fight, which turned out to be a lackluster event, lacking the excitement and intensity expected from a high-stakes match. Rather than watching boxers dance around the ring, we might find more thrilling action in nature, like the dramatic antics of squirrels scurrying along the fence.
For those seeking real thrills, professional sports have become somewhat cliché. While some might indulge in reality television for entertainment or scroll through Facebook for the latest gossip, at the Economic Prism, we turn our attention to the stock market, which promises unpredictability and excitement. We sense that something significant—a potential market downturn—awaits on the horizon.
Recently, the stock market experienced a sharp decline. The S&P 500 dipped by a whole percent, reversing after what appeared to be favorable economic reports. The news of increased new home sales and a second consecutive month of rising capital equipment orders suggested an improving economy. Surprisingly, this was perceived negatively by investors, leading to the market downturn.
Stocks Power On
These indicators point toward an economic revival. However, if the economy continues to strengthen, it’s likely the Federal Reserve will need to withdraw its supportive measures, signaling the potential end of ultra-low interest rates that have been in place for over six years.
The question arises: what will occur if the Fed raises rates? While nobody can say for sure, many on Wall Street assume it will adversely impact stocks. The reasoning is that higher borrowing costs could diminish speculative investments.
That said, raising the federal funds rate to a mere quarter percent still represents an extraordinarily low interest rate. There remains ample space for growth—could this not continue to drive stock prices higher?
Time will reveal the answer. By Wednesday, merely a day later, the S&P 500 had surged back, gaining 0.92 percent almost reclaiming its previous losses. No clear explanation for this rebound was available, illustrating the often perplexing nature of this market.
One undeniable truth is that stock valuations have reached staggering heights. Rather than declining, prices should, theoretically, be heading downward. Those entering the market at this stage of the bull cycle may confront a lengthy wait—possibly a decade or longer—just to recoup their investments. Yet, stocks continue their upward trajectory, leaving many confused about the underlying dynamics.
This Market’s Bound to Bust
In essence, we find ourselves in an unusual time and place. The prevailing mindset seems to be an unwavering belief that stocks will relentlessly rise, coupled with confidence in the Fed’s ability to manage this precarious situation. Many entrust the Fed with the power to uphold stock prices, regardless of the real economic conditions.
This mindset draws heavily on the past six years, during which consistent Fed support has driven stock prices to record highs. The correlation appears well-established; those who have simply believed in the Fed’s strategy and purchased on dips have reaped substantial rewards. Nevertheless, this blind faith may also expose investors to significant risks.
At present, there seems to be little concern about the stock market’s extreme overvaluation, reminiscent of the periods leading up to the collapses of 1929, 2000, and 2007. Few believe another dramatic downturn—potentially losing 50 percent of market value—could occur. Nonetheless, reality suggests that a substantial decline is almost inevitable, and it is prudent to prepare for this possibility.
You may label us as pessimistic or fatalistic, but it is essential to heed this warning: this market is poised for a significant downturn.
Sincerely,
MN Gordon
for Economic Prism
