You’d think this was Pamplona, Spain but no, that rumbling sound you hear in the equity markets is the sound of optimism in the form of investors shopping frenetically for bargain stocks. The recent announcement by the Federal Reserve Board and the Obama Administration to improve liquidity in the U.S. economy by buying up long term U.S. debt securities and toxic assets from the private sector is the cause of this. Most critics will argue that this will only increase America’s economic problems, but I say yes and no. Yes, because this lowers the dollar’s value and increases inflation and the public debt; no, because we avoid deflation, stimulate spending, and not have to fully rely on foreign governments to buy up our debt. Essentially, the Federal Reserve is printing more money (monetary policy) instead of the government using taxpayers’ money (fiscal policy) to improve the status quo.
With this action by the government, I can now declare with confidence that the fear is out of the markets. But don’t confuse fear with uncertainty. It took about a year for economists to confirm that the U.S. economy was in a recession and thankfully I do not think we have to wait for another year to hear that we are in a depression because, quite frankly, I think we just avoided one.
However, with the fear gone, due to the expected extra liquidity in banks, I still think that uncertainty will continue to linger on and high volatility in the markets will remain. April and May are two key months that will set the tone for the remainder of the year. Key reports that come out in those two months are US Trade balance data (Apr 9), the 2009 Quarter 1 GDP report (Apr 29), and unemployment data (May 8). If all these reports are able to meet or beat analysts’ expectations, I believe that the uncertainty in the markets will substantially decrease and that consumer confidence will begin to regain its footing.
So, have we reached a bottom or are we near one? My answer: Sort of. Although, I do not prefer using stock indices to represent the U.S. economy or it’s future performance, I will use the Dow Jones Industrial Average for tradition’s sake. With that being said, I am going to say that we are near a bottom and predict the range of 6400-7000 as the bottom for the Dow Jones Industrial Average; the S&P 500 is a harder read since it fell too fast for my comfort in 2008. The caveat: this all depends on actions taken towards improving world trade and how soon the Federal Reserve’s plan actually gets to the private sector, specifically, small businesses and consumers.
My advice to investors in 2009:
Short term investors should buy up bargain stocks with attractive dividend yields to counter higher capital gains tax.
Long term investors (5+ years) should buy up both dividend yielding and non dividend yielding bargain stocks to benefit from a lower capital gains tax and/or high dividend payout.