Current Optimism Exceeds by a Good Margin the Optimism during the Pre-Financial Crisis Era
Sometimes I wonder if high schools teach Newton’s laws of motion any longer. It’s as if nobody remembers the concept of gravity and the idea that the higher they go, the harder they fall. The last major financial crisis started just about nine years ago. The Dow Jones opened some 150 points higher after one of the most disastrous weekends in recent memory. Hurricane Irma hasn’t even finished its course of destruction in the southeastern United States.
It has been a slow period for macroeconomic indicators. It seems that U.S. investor optimism rises so long as the news isn’t absolutely terrible. But, god forbid anyone actually stop and think what on earth has been driving stocks to such highs. Why would people become such enthusiastic investors if they did not expect that the markets—and life in general—to improve? There’s no real explanation.
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Uncertainty is bad for markets. This is especially the case for a market that has inflated so uncontrollably as the present one. The big uncertainty now, of course, is how long the incredible bull streak that started when Donald Trump won the presidency will last. One interest rate hike could be enough to trigger a massive correction that could make the stock market bubble burst.
The next bubble burst could produce huge and sudden losses for investors. The market is now particularly susceptible to a sharp correction, or worse. Now, some bubbles get inflated on rumors while others on the availability of cheap credit. The dotcom bubble was inflated on rumor, and the subprime crisis was initially fueled by easy—if not cheap— credit. This is what’s driving the optimism beyond the caution that external factors are urging.
The Federal Reserve and other central banks should end the special monetary stimulus maneuvers that are the main force behind the stock market rally of 2017. It was bad credit and debt mechanisms that led to the 2008 financial crisis. When a handful of people on Wall Street uncovered the “emperor’s new clothes,” they exposed the failure of those mechanisms.
Investors Aren’t Ready to Consider the Risks
The lending and credit procedures of the first part of this millennium created distortions and bubbles in the markets. So too have the current monetary policies. They have simply rendered the cost of money too low. This favors loan activities and increases risk-taking by investors.
But investors want to keep going like this. They don’t want to follow the advice of Cassandras telling them the sky is going to fall. Frankly, there are many skies that aren’t falling, no matter how loud some people scream. All that hype about melting glaciers is just that—hype. But there is a sense that optimism is too high. Soon it will run its course and lead us straight to a major stock market crash in 2017.
Much of that optimism draws its energy from President Trump. As much as people—in social media, the press, etc.—berate and mock the president, they surely can’t complain about their equity portfolios so far. Trump is optimism personified. His entire persona is about flaunting wealth. Many people—secretly, perhaps—want to be a bit more like him. Certainly, they covet his lifestyle.
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Still, the apparent blunders he commits from time to time and his grade-three-level speeches send a positive message. They suggest that a more common person can also make it to the top. Forget for a moment that Trump may have different personas for different contexts and that he’s certainly not someone you’d want to have as a rival. Hillary Clinton, “the most qualified candidate in history,” as Barack Obama called her, found that out at her own expense. She wrote a book about it. The reviewers say she still doesn’t know what hit her.
So, the question is: “How long can the economy keep this up?” That is, giving the impression of prosperity on one hand while the reality is full of potholes. Remember that many stocks are running at valuations that are well over 22 times earnings! That’s way too high. All it can take now to turn stock market sentiment is one false move from North Korea—or from the U.S. and its allies.
Trump’s optimism and winning attitude, if not his political style and acumen, have certainly inspired Americans’ penchant for taking risks. After all, genetically, Americans are all the descendants of people who, for better or worse, took risks by merely leaving their homes in the “old” continents to populate America.
But this risk-taking, given the latest stock market valuations, can exact a heavy price. Wall Street continues to set new records. But the macroeconomic data doesn’t match. The economy added 159,000 jobs in August instead of the projected 180,000. Gross domestic product (GDP) might be up a bit. Trump’s strategy of pulling back some manufacturing jobs (e.g. the recent Foxconn/Apple Inc. (NASDAQ:AAPL) announcement) has worked.
It remains to be seen which jobs are being filled. The retail sector, a barometer of economic health, is coming under massive pressure and soon, average Americans—given the rapidly dropping purchasing power of the U.S. dollar—will find clothes at Target too expensive. Saks Fifth Avenue? Fuggedaboutit. Some flagship stores will survive and even thrive. But many others, those catering to middle-class neighborhoods, will probably have to close.
