Risk/Reward Vol. 360
THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.
Excellent earnings reports, a calm bond market, a good jobs report and most importantly TINA (There Is No Alternative--to stocks, that is) again combined to send the Dow Jones Industrial Average to record highs. Euphoria is everywhere. Indeed, on Friday, Jim Paulsen, the former chief investment strategist at Wells Fargo, said that given the current low interest rate environment and the lack of inflation the bull market could "continue forever." Talk about exuberance! But is it irrational as claimed by former Fed Chair Alan Greenspan on Friday?
As I have written exhaustively in the past, the current stock "bubble" is a direct result of central bank policies world wide. Every major central bank has driven interest rates to zero and beyond in the hope of creating inflation which they believe is necessary to spur economic growth and prosperity. This logic was explained in detail in Vol. 359
http://www.riskrewardblog.blogspot.com/. Clearly, the logic is faulty, but central banks have shown no inclination to revisit it. The two factors that they believe will cause inflation are low unemployment and low interest rates. Well, Friday's jobs report puts unemployment at a remarkably small 4.3%, and yet inflation remains stubbornly low. Indeed, a report from the G-20 (the 20 largest economies in the world) released on Thursday indicates that inflation in the developed world is currently as low as it was in 2009-- at the depths of the recession. With unemployment so low, that leaves low interest rates as the only inflationary tool left in the box. As long as the Federal Reserve, the ECB, the Bank of England and the Bank of Japan continue the current low rate environment, the stock market should continue to do well. Forever, Jim? I doubt it. Let's just say the bulls will continue to run until they don't.
If inflation is not in our future (and for demographic reasons I don't believe that it is, see Vol. 358 www.riskrewardblog.blogspot.com), what if anything will cause the bull stock market to end? One way would be for central banks to revisit the above explained logic. But as noted in previous editions, that ain't gonna happen until the composition of central bank boards changes. A second could be a black swan event. North Korea launching a nuclear attack, Iran closing the Straits of Hormuz or some cataclysmic natural disaster could do it. But a black swan is always a risk and thus not a reason to exit now. Another looming risk is credit default. As discussed at length this week in an edition of Grant's Almost Daily e-newsletter, with so much money available, lenders (particularly unregulated ones) are competing vigorously to put money to work. Not only are they competing on rates, they are also lessening the protections they normally require. We are again in an era loose underwriting and "covenant lite". As you may recall these factors led to the subprime mortgage crisis of 2008. Do I see a repeat of 2008? No. First, any such defaults would hit non-regulated lenders much more than commercial banks. In other words, the losses would be felt and absorbed by the 1% and not the general public. And two, commercial banks are much more capital secure than they were. Nevertheless, it is something to watch.
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