Credit: Shutterstock photoYesterday, the Dow Jones Industrial Average caught up with the other major indices when it traded and closed at all-time high levels. The S&P did that a month ago, followed by the Nasdaq a week or so later. Both of those benchmarks are at or close to their highs again now after a short period of consolidation.
I am sure that that will cause a rash of scary articles and opinions predicting a collapse, but a more rational, reasons analysis suggests that we haven’t seen the top yet. The logical question at this point is: How high can we go?
Any attempt to answer that question must begin with an assessment of how and why we got here and a look at the risks and factors that could derail the stock market.
As the chart for the S&P 500 below shows, this march to the highs has been a sustained one, with relatively few stops along the way. In part that is a result of the depths to which we sunk in 2009 when the S&P hit an ominous sounding low at 666. Improvement from there was almost inevitable, but it couldn’t have come without three things.
The first was an improvement in economic conditions both here in the U.S. and around the world, and the continued prospect of more to come.
That led to the second thing: improvements in corporate profits, the main driver of stock prices. Given where stocks are on average, it is no surprise that companies are making more money now than ever before. The third influence is a little harder to gauge but may be the most important of all.
The Fed deliberately created an environment where low interest rates and massive injections of liquidity forced money into the stock market. That has caused a feeling in some quarters that what we are seeing is one of the biggest asset bubbles of all time, and that there will be a price to pay.
The doomsday argument, as logical as it may seem in some ways, is, however, belied by the other things driving stocks higher. If multiples of earnings were at 1999 or 2000 levels it would make sense, but they are not. Valuations are currently more about reality than hope or rampant speculation.
Still, there are things on the horizon for investors to worry about.
If easy money has been one of the main drivers of the climb it follows that an end to those policies is the main danger to the market. Over the last couple of years though, the Fed has begun to normalize conditions and the evidence so far suggests that the economy is now strong enough to continue to thrive without their help.
The potential problem going forward is that higher rates do choke growth, but so far business-friendly policies from the Trump administration have offset that danger.
That is not to say that record stock prices are all the doing of the President, nor that Washington isn’t creating potential problems of their own. It is quite possible that the trade wars with China et al are, as Trump insists, winnable, but common sense indicates that imposing massive taxes on imports and the resulting retaliation will have a negative effect on the economy.
Whether that causes stocks to fall dramatically or not depends on how the market views the downturn when it comes. If it is seen as something both predictable and temporary we will see a pause in the upward march, but not a real reversal.
As to how high we can go before we see at least a pause, that calls for a more technical analysis.
The move up over the last few months has resulted in an upward channel that suggests that the next point of resistance will be somewhere around the 2955-60 level. Look further back on the chart though, and you will see that the last big drop earlier this year followed a much faster, consistent spike.
Until we see that kind of irrational exuberance again, there is really no reason to think that any resistance point will be anything more than a temporary stopping point. It is likely, therefore, that we have a lot further to go.
When the market is at all-time highs it is only natural to get a bit nervous. In nature, what goes up must come down, but the stock market is a man-made construct, not a natural phenomenon. It does not respect the laws of gravity. At some point of course, we will correct, but that will happen for a reason, not just because. History suggests that reason will be something unforeseen, or at least not one of the current worries. Until then, ride the wave!
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
