These are the forecasts released after yesterdays Federal Reserve (FOMC) meeting. 2% GDP growth is not conducive to corporate earnings growth of 20% (which is currently built into stock prices).
Something has to give.
And now, interest rate adjustments aside, the US Federal reserve will be starting to reduce its balance sheet by $10B per month (beginning in October) and gradually increasing that amount.
What happens to the $10B (and eventually more)?
It is removed from the financial system. The US Federal Reserve will not be buying $10B of additional securities (each month) that they have been previously buying, so the financial markets have to take up the slack and buy those additional securities themselves.
Where will the $10B come from?
The most expensive assets will be sold to make room. If you own expensive assets, it is likely that their prices will start falling.
If economic growth is only going to be 2% and stock prices have built in a 20% premium (above the current expected earnings), I would argue that the 20% premium in stock prices might indeed make them expensive assets and therefore vulnerable to selling.
This is one of the reasons that we have taken a cautious position in owning over-priced equity assets in our portfolios. Tactical and disciplined investing.
Bianca and I were visiting with one of our older clients yesterday (yes, we make house calls!). She had recently moved into a lovely assisted living community because of some health issues and while she was thrilled with her new living environment and the additional care, she was, quite reasonably so, concerned about the additional costs.
We had redone her Wealth Forecast to allow for all the changes and were able to show her that there was going to be little impact on her long-term net worth (she was thrilled for her ultimate beneficiaries). Tailored, flexible Wealth Management.
"But what about the stock market?" she asked, "it doesn't look too healthy" (I'm glad she keeps an eye on things). We showed her that at the moment, her total exposure to equity markets was approximately 8% and that we had plenty of income being generated by bonds, preferred shares and cash equivalent, no MER, High Interest Savings Funds (CDIC insured) to provide her with safety and all that she might need into the future.
Folks, stocks are expensive and vulnerable and I would suggest by what the Fed is telling us we should not be complacent.
Scott Tomenson,CIM Managing Partner, Chief Investment Strategist