Markets continue to set new records despite the fact that the world has a long way to dig out from the pandemic. Investors seem oblivious and are buying stocks like GameStop, Tesla, and Bitcoin, sending these equities into the stratosphere. This is often typical market activity late in the business cycle.
When will this market euphoria end? It is true that good news is on the imminent horizon. The vaccine rollout has begun in earnest. Congress is likely to pass yet another round of stimulus, further bolstering the economy. The Congressional Budget Office is forecasting growth of 4.6% in 2021, a big improvement over the -3.5% negative growth of last year.
Consumer confidence rose for the second consecutive month in February. The Federal Reserve has promised to keep interest rates near zero and to continue asset purchases for the foreseeable future. With all this good news what is there not to like?
One worry is that the combination of consecutive stimulus programs and ultra-low interest rates might create asset bubbles. Tesla is a good example of a potential bubble. Its stock price is up over 300% over the past year. What happens when the bubble bursts and prices come back to earth? When these assets get adjusted to a more realistic valuation, the resulting downdraft they cause has an unpredictable effect on the broader economy and the stock market.
It is worth noting that two relatively recent assets bubbles: the tech run-up in the late 90s and the housing price boom in the 2000s both contributed to subsequent economic downturns. Another worry is that so much stimulus financed by government debt will eventually lead to inflation. With so many people unemployed right now, it doesn’t seem that inflation should be a big concern; however, as the economy recovers and people spend pent-up savings on restaurants, travel etc., it is likely that some segments of the economy will see higher than normal price growth.
Reflecting upward inflation expectations, 30-year US bonds yields have increased to 2.2%. These yields are still historically low, but the rate of increase over the past few months has been pronounced.
As life assumes some normalcy, it may be that stock prices will become more volatile. Although we have anticipated many stock market downturns that never arrived . . . yet, it probably doesn’t hurt to prepare oneself emotionally for the inevitable market correction.
It’s easy to forget that market corrections and the recovery that follows are all a part of the normal investment cycle. We are hopefully nearing the end of the pandemic that has caused so much misery. We are all ready to get outdoors, travel, visit friends and families, and to enjoy the simple pleasures of life!
We are encouraged that so many of you are moving on with your plans regardless of the pandemic. Let us know how we can help you achieve your goals.
Our previous economic, investment and market overviews: