Dow will rise until optimism runs dry
I have been besieged lately by investors asking me whether the current rally on the Dow can continue and how far it can go.
Indeed, the Dow continues to plow ever higher, setting new highs on what seems to be a daily basis.
Stock investors seem to be telling us our economy is on the cusp of greatness, and the market is reflecting this optimism with higher and higher stock prices.
The theories abound as to what is driving this market, from the Federal Reserve printing tens of billions of dollars a month, which is finding its way into the stock market, hope that an economic recovery will finally stick, to the “rotation” theory that claims investors are switching out of bonds and savings and into stocks because the interest rates are low, strangling off returns.
When markets fall and rise in such spectacular fashion and the questions start pouring into my office, I always answer the same way. I think back to what a broker friend of mine said during a time when one of my stocks, which appeared to be a perfectly healthy company, kept falling despite posting solid sales numbers.
When asked why the stock was being hammered so, my broker friend simply said, “Marc, there are more sellers than buyers.”
That forever stuck in my head, and it is the reason (and the only reason) stocks move.
Either buyers outnumber seller or sellers outnumber buyers.
Simplistic as it may sound, it goes hand in hand with what I have always said about the stock market: The stock market will reflect reality eventually, but its day-to-day movements are only the result of the perception of all the millions of players in it on any given day.
For an example, think back to the mid 2000s. Right before the real estate bust became mainstream news, home sales were slowing, and defaults were on the rise. Despite this fact, prices of stocks of home building companies were still rising. Although the reality was that home sales were on the decline, investors still believed the real estate market and, hence, home building stocks were a buy, and their prices rose. This was the “perception” part of the equation. Once the reality of where real estate was going set in, stocks prices of these same home builders plummeted. The day to day movements of home stocks were based on perception, not reality, but eventually their stocks reflected reality and fell.
How long can the markets plow higher?
As long as the perception that they can remains. Eventually, reality will set in, and then we will find out whether the markets’ recent rise is based on economic fundamentals and an improving economy or just running on the Federal Reserve’s easy money policies.
This article expresses the opinions of Marc Cuniberti. He hosts “Money Matters” on KVMR FM 89.5 and 105.1 FM at noon Thursdays. His website is http://moneymanagementradio.com
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