U.S. Stocks Hit Record Levels and Caution Abounds
U.S. stocks were up on Tuesday, pushing the Dow Jones Industrial Average (DJIA) and NASDAQ into record territory, with the S&P 500 trading just below its own record levels. Already-exuberant investors became even more optimistic as fourth-quarter earnings season continues to surprise to the upside.
More than half of S&P 500 companies have reported earnings, with more than 65% reporting that they beat their profit estimates, and half of them reporting that they beat their revenue projections.
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While the Dow and the S&P 500 are both up less than two percent in 2017, stocks have rallied significantly since Donald Trump won the U.S. election. Stocks have been rallying almost 10% since the lows of early November. Investors are quite certain that Trump’s corporate tax cuts, business deregulation, and infrastructure spending will be good for corporate America.
There are no stats to back it up, but a sizable portion of the recent stock rally hinges on Trump following through on his promises, and those promises coming to fruition. Until that happens, it appears as though investors are content on keeping stocks at record levels.
Where Is the Stock Market Headed?
In light of the unbridled optimism, many believe that the geriatric bull-market will rage on for years. Where is the stock market headed? According to Barron’s, the Dow could hit 30,000 by 2025, assuming there’s no trade war…or real war.
Many other pundits have echoed this bullish sentiment: “Stock prices have reached what looks like a permanently high plateau. I do not feel there will be soon if ever a 50 or 60 point break from present levels, such as they have predicted. I expect to see the stock market a good deal higher within a few months.”
Oh wait, that’s what Dr. Irving Fisher, an economist at Yale University, said a few days before the stock market crashed back in 1929.
At the time, Fisher believed all was well with the U.S. economy and that all would remain well. In fact, stock prices had not yet caught up with their real valuations. As we now know, that was wrong.
Fast forward 90 years and Wall Street continues to sing the same song. An economist I was speaking to, who had recently graduated from university, said that the bull market was sound and would never crash. I asked if he would have said the same thing back in 2007, 2000, or 1987? No, but that’s because it’s different this time.
It isn’t. This bull market, the second longest in history, is getting old and tired. And history shows that the markets go in cycles, up and down. If they didn’t, we wouldn’t be at record levels now. So we know the current bull market will end.
Stock Market Correction This Spring?
When will the next stock market crash happen? If the markets don’t experience a correction in February, investors should expect to see one in the spring. That’s because stocks are sorely overvalued and investors are increasingly complacent.
First, the S&P 500, according to the cyclically adjusted price-to-earnings (CAPE) ratio is overvalued by more than 77%. It has only been higher for longer twice, in 1929 and 1999. Each was followed by a crash.
Second, the gap between the S&P 500 forward price-to-earnings (P/E) ratio and the CBOE Volatility Index (known as the fear index) is at its widest since July 1998, July 1999, and August 2000. After each of these months, the stock market experienced a significant correction.
Moreover, there are a number of events that could trigger a stock market crash or correction. The main possibility on the radar right now is a trade war between the U.S. and China, the world’s two biggest economies.
According to Goldman Sachs Group Inc (NYSE:GS), there is little reason to believe that President Trump will back down on trade restrictions with China. During his election campaign, Trump threatened to impose tariffs ranging from 35% to 45% on Chinese imports. He has repeatedly criticized China for currency manipulation, hacking, and theft of trade secrets.
Will he follow through with his threats? Trump signed a large number of executive orders in his first week in office, showing that he plans on keeping his campaign promises.
Despite widespread bullishness and optimism, investors shouldn’t bet against a stock market crash in 2017.
