What a difference a week makes…
Or should I say a few months.
The US stock market has gone bonkers since November. It’s up about 10%.
The Trump rally has caught lots of punters off-guard, many of whom are in denial about the current seven-year bull market.
Of course, not everyone is bearish. Otherwise, the market wouldn’t be trading at near all-time highs.
The Dow Jones Industrial Average continues to tease investors, however. It came within an inch of touching the much-anticipated 20,000-point milestone on Friday. Unfortunately, the blue-chip index lost momentum in the final hour of trade. It closed at 19,963 points.
What’s in store for the stock market now?
I’ll explain below…
How stuff works
To start, the US market looks exceptionally bullish. It’s been in a strong uptrend for years. Don’t ignore this fact. The bull market could easily surge into 2018. There’s nothing in the world that warrants a major stock market crash right now. For that reason, don’t be surprised if the Dow Jones shoots above the 20,000-point mark this week.
That should spell ‘good news’ for the Aussie market. The two indices tracked each other closely last year. At certain times, the Aussie market outperformed the US, and vice versa. You can see this below. The ASX 200 is shown as the blue line against the Dow Jones:
Source: tradingview.com; Resource Speculator
[Click to enlarge]
The US market gained a few more percentage points for the year. That shouldn’t be a huge surprise.
The Aussie market tends to follow bank and mining stocks. In that case, you should make a lot of money if those sectors do well. The miners were strong during the first three quarters of 2016. The banks have been stronger following the US election. That summarises the story for our market last year. With that in mind, I hope you have an international trading account.
In my view, the US should continue to outperform the Aussie market. The miners aren’t ready for primetime, and the banks are likely to remain volatile. On the other hand, attracting lots of international investors, the US boasts the largest stock market in the world.
The Dow Jones is the ‘trophy’ index, comprising some of the best-known companies in the world. Apple [NYSE:AAPL], The Coca-Cola Co [NYSE:KO] and General Electric [NYSE:GE] are a few names worth mentioning. Most punters around the world know these companies, and are comfortable buying them. Institutional investors, central banks and pension funds also own a lot of stock. For that reason, the Dow Jones tends to be the best lead indicator for global stock markets. I recommend buying this index during the next pullback.
The US S&P 500 Index is the domestic retail index for US citizens. It’s diversified across the 500 leading companies in the US. Interestingly, the S&P 500 has outperformed the Dow Jones since the Global Financial Crisis of 2008/09. I don’t expect this to continue, as more international money moves into the US. The Dow Jones should attract most of the attention.
The Russell 2000 is the small-cap index. When the US stock bull market gains momentum, the Russell should outperform the pack. Remember, small-cap stocks tend to lag larger stocks — before the ‘fun’ starts, anyway. I recommend buying this index when the bull market goes parabolic.
I’d pay attention to the Dow Jones for now. The Dow Jones is likely to be volatile, due to its concentration (comprising only 30 companies) and international audience. It moves and shakes depending on international and US domestic news. International investors are attracted to the US if they’re bullish, or they want to avoid their home country.
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Financial markets have mostly focused on Trump since the US election. International news has paled in comparison. Bloomberg reported on 6 January:
‘After President-elect Donald Trump won the election, markets began a decisive shift in essentially all asset classes. Suddenly, everything from bank stocks to emerging-market bonds staged decisive price swings, driven by a stronger dollar, an increase in U.S. growth expectations, worries over the prospect of a more protectionist Trump-led administration and a steeper U.S. yield curve.
‘A big beneficiary of this dynamic has been U.S. equities, which have now seen nearly $70 billion in inflows since Nov. 8, according to Bank of America Merrill Lynch. Big losers have been emerging market equities and bonds, which have seen more than $10 billion in outflows.’
Here’s a chart showing just how big these moves have been.
Source: Bank of America Merrill Lynch
[Click to enlarge]
A lot of punters are shocked about the Trump rally. If only the mainstream media didn’t mislead us heading into the election, that wouldn’t be the case. The mainstream media continues to report ‘fake’ news about Trump’s policies. Apparently, his policies are reckless and spell bad news for the world economy.
While I don’t agree with every policy (which I’ll explain tomorrow), Trump’s economic agenda is extremely bullish for stocks. He wants to cut business taxes to 15% and repeal Obamacare — a tax on everyday Americans. With more capital available in everyday people’s pockets and lower taxes for businesses, a lot of capital should move into the US. The US stock market has seen a tremendous rally for that reason.
Remember, financial markets move on anticipation — not facts.
The US Dollar Index — a basket of global currencies weighted against the greenback — is up about 5% since the US election. That shows international investors like the narrative for 2017 — stronger US economic growth, stronger company earnings growth, higher interest rates and a strong dollar.
The stock market is booming, and the US Fed wants to raise rates three times this year. That’s not bearish for stocks by any means. The stock market isn’t anywhere close to crashing.
The US looks good for business investment — especially compared to the rest of the world. Most countries are over-regulated and over-taxed. A lot of capital is heading into the US for that reason.
When to buy
Of course, the bull story doesn’t rule out a healthy stock market pullback. It might not be huge. It might be short and sharp.
The stock market could peak this week, and pull back into the week starting 23 January. That’s just after Trump’s inauguration on 20 January. Some punters may choose to move to the sidelines while the change takes place. I suspect it could take a week or so to convince punters that ‘everything is great’.
Who knows what could go wrong?
Looking around the world, I can’t think of anything else that could correct the stock market right now. I’ll explain why we could see a deeper correction at a later date tomorrow. If anything changes with this trade idea for the worst, I’ll let you know. In that case, look to buy stocks during the week starting 23 January.
Remember, there’s big news around US tax cuts, regulation and healthcare to come. Plus, money is still flowing into financials, industrials and consumer discretionary stocks. That story probably won’t die anytime soon. It’s a very bullish sign for a stock market to keep running higher.
Editor, The Daily Reckoning
PS: If there’s a selloff heading into the week following Trump’s inauguration, I don’t recommend investing blindly. Look to buy the best stocks on a risk/reward basis. That should provide the best return on investment. I believe the speculative end of the resources market offers the best opportunities today. That’s where you could potentially find massive rewards. For more information, click here.