The market has been roughed up this month…
The Dow is down 7% since October 1. The S&P 500 has fallen over 8.5%. And the tech-heavy Nasdaq has plummeted nearly 10%.
Although 10 years have passed, horrible memories of the 2008 market crash loom in investors’ minds.
“Are we about to tip into a prolonged bear market?” That’s the question on many folks’ minds right now.
It’s a fair question. After all, this is one of the longest bull markets in history. It certainly feels like we’re due, doesn’t it?
But here’s what I’ve learned about markets… They can stay bullish (or bearish) for a very, very long time. Just because we’ve been in a bull market since 2009, doesn’t necessarily mean the party is over.
Let’s rewind to 2011. I remember people telling me the bull market was “long in the tooth” and primed to fall apart. And we did indeed have a 20% correction at the end of that year.
But rather than that being the end, the bull market “reset” itself for even higher highs.
In late 2014, I gave a very bullish speech at the Palm Beach Research Group Infinity conference.
At the time, the Shiller P/E ratio (the price-to-earnings ratio based on the average inflation-adjusted earnings over the previous 10 years) suggested that the market was wildly inflated.
“The bull market is aging,” everyone crowed. And I was roundly criticized for being a reckless bull. At the time, the S&P 500 was at 2,000, and the Dow was at 17,500.
Since then, they have been as high as 2,930 and 26,828, respectively. Those are peak gains of 59% for the S&P 500 and 62% for the Dow.
And we didn’t see those gains in a straight line, either.
The market meandered for about a year… and created a great opportunity for us. We used that period to load up on great names like Nvidia (NVDA), Microchip (MCHP), and Maxim Integrated (MXIM).
We closed those positions with gains of 550%, 65%, and 65%, respectively.
The “reset” period from late 2014 to 2015 gave us the opportunity to pick up those great names on the cheap. Then, like now, people confused a short-term pullback with the beginning of a bear market.
Where Are We Now?
You can see that dismissing a market just because of its age doesn’t work as an analytical tool. Here’s the two-step process I use instead: I ask myself two questions…
- Why is the market going down?
- Do I agree or disagree with this logic?
Let’s tackle the first question: Why is the market going down?
The main cause is people fear rising interest rates will act as a headwind to the economy.
Here’s what the Street is thinking…
If interest rates rise, debt will get more expensive, corporate borrowing costs will go up, corporate borrowing will decrease, the economy will slow down, and corporate earnings will drop. Thus, stock prices must fall.
I don’t agree with this thesis… but many people do. And that’s why we could see some more volatility ahead.
Here’s why you need to look past these fears and embrace the opportunities to come…
The yield on the 10-year Treasury is abnormally low. It’s yielding just 3.1%. For the last century, it has historically yielded 6%.
That’s important because when rates start at a normal level of 6% and go to an abnormally high level, then it’s a good bet we’re about to enter a prolonged bear market.
But when rates go from an abnormally low level (like they are now at 3.1%) to a normalized level (6%), guess what happens?
Instead of Falling, the Market Booms Higher
A word of warning: Just like in 2014 and 2015, the market won’t go higher in a straight line. It will probably have a short-term rally, then get hit lower again.
That see-sawing motion could play out a few times before the market is ready to gun to new highs.
This type of market action is normal and healthy.
But here’s why I think we’ll have more churning action ahead…
Many of today’s Wall Street traders are under 35 years old. They have very little historical knowledge of the stock market. In their Ivy League schools, they were taught that “interest rates going up equals the stock market going down.”
Wall Street traders’ ignorance of how a rising-rate cycle works when coming up off very low rates is a gift.
Their ignorance will create weakness that we will use to buy the next crop of monster winners like Nvidia, Microchip, and Maxim.
Learning From the Past
Please remember interest rates are rising because the economy is improving. A move to normalized rates won’t be enough to slow down the growth machine that the U.S. has become in recent years.
Here’s the proof…
The closest comparison to today’s rate environment is the late 1940s to the late 1960s. During that period, rates rose from abnormally low levels back to normal levels. Using traditional thinking, you’d think this was a terrible time for stocks. But it was the exact opposite.
If you look at GDP growth and stock market growth, the 1950s was the best decade to be in the stock market in the past century. The S&P 500 averaged 19.4% per year. That’s better than in the 1980s or 1990s.
And we saw massive growth in the economy.
Things didn’t begin to slow down until interest rates went over 6%. Equities got crushed after that point. But we’re not anywhere close to that right now.
Remember, the 10-year Treasury is around 3.1%. Rates will have to double from here before they have a meaningful effect on corporate earnings.
The Bottom Line
So to answer my second question from above on whether I agree or disagree with Wall Street’s logic… I strongly disagree.
Wall Street’s logic that higher interest rates will kill the bull market is an incorrect analysis. That means a buying opportunity lies ahead.
Our game plan is the same one I’ve been pounding the table on since late 2014: You want to stay away from bonds and stay invested in high-quality stocks.
As long as interest rates are below the norm, we are excited about the market. The key here is to be patient. Let the market do its volatility dance while we eagerly eye new ideas to bring to you.
Let the Game Come to You!
Editor, The Palm Beach Letter and Palm Beach Confidential
And Official Cryptocurrency Expert to Townhall Media