In this past weekend’s newsletter, I laid out the bull and bear case for the S&P 500 rising to 3300. In summary, the basic driver of the “bull market thesis” essentially boils down to Central Bank policy, as noted by the WSJ yesterday:
“U.S. indices hit record highs last week on rate cut expectations. We’ve shifted from fiscal stimulus to monetary stimulus as the driver of the rally.”
In other words, it is all about “rate cuts.”
This reliance on the Fed has led to a marked rise in “complacency” by investors in recent weeks despite a burgeoning list of issues. As shown in the chart below, the ratio of the “volatility index” as compared to the S&P 500 index is near it’s lowest level on record going back to 1995.
(Of course, exceedingly low levels of volatility relative to the S&P 500 have historically denoted periods of price corrections or worse.)
The following considerations fly in the face of the high level of complacency ruling the financial markets:
- The global economy is slowing.
- Growth in European economies is slowing dramatically, including Germany where 10-year bond yields dropped below zero for the first time since 2016. (There is currently a record level of nearly $13 Trillion in negative yielding debt globally.)
- China, representing 30% of global GDP growth, is weakening rapidly.
- Domestic GDP is expected to rise by only 1.50% in the second quarter, which is a sharp reversal from last year.
- The trade war with China, and to a lesser degree Europe, has not been resolved and could accelerate on a Tweet.
- Despite being ten years into an expansion, markets at record highs, and unemployment near 50-year lows, the Fed is talking about cutting rates at the end of the month. What does the Fed know that we do not?
- The potential for a hard BREXIT is still prevalent.