Interest rates will be near zero for three more years now, we expect — that’s the basic takeaway from the Federal Reserve’s press conference this week.
So what does that mean?
In order to make money to meet their future obligations, retirees and pension funds and other investors have to take more risks.
That’s ugly for the country, I expect, since it means we’ll likely see a widening wealth gap, but it’s probably good for the stock market… particularly for stocks that either pay a meaningful dividend or have strong expected growth. Dividend stocks are increasingly being seen as “income replacement” competition for bonds, I think… and with persistent low short-term rates, most dividend payers will see their earnings improve because most of those businesses use some leverage, particularly REITs, and the cost of that leverage (borrowed money) has fallen. And growth stocks will benefit if the “discount rate” is very low, as it is now because the 10-year Treasury Note yield is super-low — because it means their future earnings are worth almost as much, at least in discounted cash flow models, as current earnings.
So yep, things are expensive… and richly valued stocks could absolutely fall hard from here if bad news hits, so it’s important to be mindful of that and have your plan in place (will you sell on a stop loss? Buy on dips? Hedge with puts or short positions? Sit with a big cash position and pick off stocks as they fall? Have a plan before it happens).
The valuation of the market would have to be described as “pretty rich.” We’re heading into what will be a very hotly-contested and emotional national election, which will very likely mean that the fourth quarter brings us some big moves in the market, both up and down. And I think that there’s a very real possibility of a double-dip recession as companies try to claw out of the COVID panic over the next year and unemployment remains high.
But still, my basic assumption has to be that the stock market still has a tailwind for the next couple years. There’s just too much money looking for returns, and too little competition for stocks as a way to earn those returns. Take that broader prognostication with a grain of salt, forecasters are almost always wrong and I’m sure to be no exception, ...