Headwinds and Tailwinds: Which Way Will the Markets Blow?

There are several major headwinds and tailwinds in today’s markets.  Here we examine each and its potential impact on the market:

Tailwind: The “Fed Put”

“Don’t Fight the Fed” has been the operative word for a long time.  That looks like it will continue.  Widespread expectations were that the Federal Reserve would taper Quantitative Easing (QE).  On Thursday, the Federal Open Market Committee (FOMC) voted to keep asset purchases unchanged at $45 billion in Treasury securities and $40 billion in mortgage-backed securities.

The (Smart) Trend is Your Friend: Stocks Moving Higher

In the world of investing, you have to see things a little bit differently than everyone else.  You don’t win by following the “big dumb trends”.  These are the things that everyone already knows about.  These trends are - at best - fully reflected in the stock price.  At their worst - they create the types of bubbles we have seen balloon out of control and then pop. 

The danger in the stock market comes when everyone starts to see things the same way.  When investors start all herding together towards the same industry (see Technology in the late 1990s and early 2000s) or stock (Apple’s recent tumble from $700) or idea (homes will never decrease in value) - that is when things are most dangerous. 

Investors who buy or sell based upon what that they read about in the Wall Street Journal or see on CNBC don’t find out about the party until after it has happened.  They miss out on the biggest returns before the trends start or get scared out of good opportunities. 

A key to long-term stock market performance is

Pent Up Demand: A Future Driver of Economic Growth

Pent Up Demand Pushing Cyclical Stocks

We are coming out of a lengthy period of decreased spending in the wake of 2008-09, which has built pent up demand for automobiles, housing and capital expenditures.  The average age of vehicles on the road has reached a record high of 11.4 years.  Demand for new houses fell off dramatically since the Great Recession.  The average U.S. home was built in 1974 and continues to age. 

As people have chosen to fix rather than replace their vehicles and homes, we’ve seen the replacement-type industries do very well.  Auto Retail’s 2^nd quarter sales and earnings per share were up 14.7% and 18.6%, respectively.  Home improvement retail grew sales nearly 10% with earnings up 20% from 2^nd quarter 2012.

Barnyard Forecast is Bull-ish on Stocks

The Barnyard Forecast is a basic model we use to determine whether the current monetary policy environment is accommodative, neutral or restrictive towards stock market growth.  Since 1990, the Barnyard model has correctly predicted the general direction of the market over the next 6 to 18 months approximately 80% of the time.  Our last published Barnyard analysis appeared in 2012.

The Forecast gets its name from the acronym of its components: economy, inflation, earnings, and interest rates = opportunity for stock market appreciation (E+I+E+I=O).  Each factor is rated as positive (2 points), neutral (1 point), or negative (0 points) for stocks based upon historical relationships between that component's economic data and its likely effect on the Federal Reserve's monetary policy.  The total points are added up to arrive at a score between 0 and 8.  A score above 4 indicates a positive environment for stocks.