One of the main reasons why the stock market has rebounded from 2008 so quickly (the S&P500 is +111% from Jan 1st 2009 to Jan 1st 2014) is because the FED was quick to relieve the pressure on US consumers. The Gov’t helped massively many companies in the auto and financial industries. They didn’t want to see the system collapse and rescued its heart so it can continue to pump blood (money) through the system.
But buyouts weren’t enough to comfort the Street. Since 71% of the US GDP is driven by the American consumer, the FED had to dive into a series of quantitative easing methods (read more about it here) to maintain rates on the floor artificially. Since it doesn’t cost anything to borrow money (considering inflation), it was the right time for both companies and consumers to A) clean up their balance sheets and B) start over with increased spending.
We really saw this phenomenon in two phases. From 2009 to 2012, consumers were paying off their debts and increasing their savings while companies were doing exactly the same thing. In 2013, everybody found themselves sitting on piles of cash and started to spend. This is a simplistic explanation of the economic environment for the past four years, but I’m not too far from the truth either.
But Now the Party is Over and QE is Dead
At the beginning of the year, it has become an obvious truth that the FED will stop injecting money into the system (currently QE3) since the economy is showing signs of constant progress. For some time, they have discussed the possibility of raising rates in 2015 once the unemployment rate hits 6.5%. Now that the latest data shows an unemployment rate of 6.3%, everything is pointing towards the same conclusion: Quantitative Easing is Dead and Rates are Going up.
Analysts always want the perfect condition to continue trading: lots of liquidity and low rates to borrow. This is why the market might stagnate for a few months upon the rumors of rising interest rates. But it doesn’t mean you should leave the dance floor, not right now anyways.
I actually think it’s a good thing to see rates head upward. I’m a little bit conventional with my investments and don’t like when things aren’t the way they are supposed to be. The Gov’t buying bonds to maintain rates artificially low is against the laws of nature and I don’t want to know what is going to happen if we keep doing that. After all, the money used for Quantitative Easing programs will have to be reimbursed one day, so we better stop while we can.
This might lead to a couple of rough months on the market and it will be the perfect time to buy more of these amazing companies. Because the other part of the equation is still there: companies are still sitting on piles of cash and this means more dividends for you! Well, that’s what I think anyway, what do you think?