DOW 20,000 – Yay Everyone Put on Your Party Hats!
Yes, that title is sarcastic in case you were wondering. Sure I’m a big fan of the stock market and believe it will always rise over the long-term.
However long-term is the key word here. Bear markets are real (yeah remember those things?) – and the more overvalued and speculated the stock market is, the longer and worse the bear market will be.
This speculation goes further than today’s crossing above the 20k psychological threshold. It goes back to fundamental, rational investing principals… something that is being overlooked by today’s traders.
It’s not the cool thing to say the market is significantly overvalued – especially the financial media who have a direct interest in keeping people interested and motivated in the market. Hell, it even helps me because I’ve noticed that book sales, Facebook followers, Twitter followers all increase whenever the market rises higher.
I’m still going to tell you the plain truth though.
Ever wonder why bull markets last roughly every 7 years? Why not every two years, or every year?
Many factors go into bull markets, however there’s one rarely mentioned --- the mindset of the current generation of investors.
It’s the reason why it took years for the stock market to recover after the tech bubble, it’s the reason why it took years to recover after the housing crisis…
The generation speculates, irrationally drives up the market, the market crashes, and that generation becomes extremely cautious of the stock market – (i.e. they learn a lesson).
Ever hear about the generation that lived through the Great Depression? Although the Great Depression was over 70 years ago, these people still live very frugal lives. The depression left a lasting memory in these people and altered their behavior for years to come.
The same applies to the market. The people who lost their money during the tech bubble learned their lesson. Eight years passed, a new generation of investors entered the market, and again learned their lesson.
The same thing is happening now. Speculation is running wild – much higher than the housing crisis and is even approaching tech bubble levels.
What is this statement based on?
For one, the market is trading at 129% of GDP. It has only reached this level once in history… May 1999.
Second, the forward P/E is at highest levels since the tech bubble. This means that even considering rosy analyst pictures of company earnings thriving in the future, the stock market is still priced at this extremely high level.
Third, the percent of shares shorted is at its lowest point since 2014. Many short sellers have either left or been squeezed out of the market (for good reason). However the extremely low level of short-selling means there’s plenty of room for a spike back up to 2015-2016 levels, which has a very strong impact on stock prices.
Fourth, and possibly most important, interest rates have been at an unprecedented rock bottom level for the past 8 years. Over 8 years, with no other good alternatives to put their money, investors have continually entered the market.
In-turn, these low interest rates and long bull market has given this generation of investors the misconception that the stock market is much safer and profitable than it actually is.
Interest rates will rise over the years. Their effect will not be immediately seen in the market, however they will have a huge impact over a period of time.
As banks start offering more enticing rates to their clients and as the supply of money tightens, people will slowly start pulling out of the market and using their money for personal expenditures. Some companies will benefit, but the overall market will significantly decline.
Interest rates are a huge weight on stock prices – the new generation has not yet experienced this effect.
Remember, bubbles don’t happen when people are expecting them. Bubbles happen because people become irrationally greedy and are oblivious to that fact.
I’m never one to predict a crash or try to put a date on a bear market. Warren Buffett said it best – the market can be irrational longer than you can be solvent.
However, the fact of the matter is that the market is becoming more irrational and more speculative than ever before.