I have been spending a few hours a day reading on macroeconomics and since I work at a money management firm, I will chip in on what I observed...
Tooq, one thing is quite obvious. The corp profit margin is at record high. They have used the newly created money from the Fed to beautify their balance sheet by either refi their debt, do some investment... and NOT HIRING. Virtually across the board, the private sector is doing everything they can to be recession proof so they can survive long term. It's certainly a good thing for us investors who invest in equity market.
However, you have a few quite big things to worry about down the road. I will lay it out here and will give a final conclusion after that.
1. The global economic crisis will eventually come back home. With globalization, our large numbers of corps are no long pure US companies anymore. They derive significant income from overseas. If Europe debt crisis is not contained, if China and Brazil are heading for hard landing, we will sooner or later see it from our corp earning start to get softer. Actually, if you pay attention, the earnings are start to get weak.
2. From 2008 to 2012, the grand scheme of US economic has not improved from the fundamental perspective. Unemployment is still high, wage is flat, rising food cost is eating up consumer's discretionary spending. Meaning, this economy that largely depending on consumer spending has not improved. If you don't have people spending money, company cannot sell goods and services. Yes, their balance sheet might look pretty, but earnings will eventually get weaker if they are not selling.
3. Banking system around the globe is still fragile. The messed up CDS (credit default swap) market that tanked AIG is still messed up. Nothing got done in the last 4 years even though they introduced new regulation (google Dodd Frank) for the creation of clearinghouse for derivatives didn't do much good. Last time in 2008,it was just a small amount of mortgage backed security went bad.. The derivative market is enormously big, so if the sovereign debt goes bad, something bad could happen.
4. Then, you have the high pressure of inflation and higher interest rates. I am not talking about hyperinflation at all. anyone who pitches hyperinflation has no idea about the oil-dollar link. I won't go there.. But I am talking about some double digit inflation. You see, we have successfully exported a lot of inflation to emerging market like China and Brazil in recent years after Fed started printing money. This will eventually hit back home since our banks took the money and speculated and lend to these countries. But sooner or later, inflation will hit back home.. Interest rate is kept artificially low.. I am not predicating the rate will go higher anytime soon.. but eventually it will.. thus, the bond market will suffer.
So in conclusion, I believe the investors are discounting the mounting risks around the globe and there is a strong sentiment to push the stock market higher these days in the hope for more Central Bank actions..
When the weak corp earnings start to coming in, the stock market will get pulled back to reality. In another word, the investors are currently behind the curve right now..
Do I see a big crash? No. Stock market doesn't just crash. These perma bears are just scaring folks into buying their gold funds or whatever.. Even a 25% correction in S&P doesn't just happen cuz Fiscal cliff is near.. Do I see a 3%-8% correction? Absolutely.
The truth is, the market is going to behave a sideway step for a while until we sort through all the uncertainty. So, the strategy, especially if you are a mutual fund investors like most of you are, you should always have some cash ready and buy on market correction. When the market dips down by a significant percentage, put some more money in so you buy more shares. When the market is riding high, trim some hair, park some money aside... Keep a journey so you can track your prices. And don't go in and out too often, as mutual fund doesn't allow you to do that anyway... ETF is a much favorable alternative though.
Based on what I read and what I see and what I got educated from my own industry, the financial money managers are embracing a long term sideway market for at least a few more years down the road... So plan accordingly.
