It’s normal to have higher levels of volatility because the U.S. Federal Reserve moves from simple to tighter monetary policy. In the end, uncertainty is rarely something markets respond positively to.
But after seven many years of near-zero interest rates, investors are once again concerned that the U.S. economy will materially weaken and equity markets will follow as its central bank prepares to hike. Which was the case in 1988, 1994 and 2004.
But as David Rosenberg often likes to point out, perception and reality won\’t be the same thing. The?chief economist and strategist at Gluskin Sheff + Associates Inc. expects lessons of the past will be useful once the Fed does move.
He noted that bear markets never emerge using the first Fed rate increase, nor the second or third. Yes, equity market moves and the occasional pullback may dominate the landscape for some time, but Rosenberg believes investors have a tendency to underestimate (a minimum of at first) how well the economy copes with early rate hikes.
“Now nothing lasts forever, that much is for sure, and also at some point this economic expansion and equity bull market can finish as they all do,” he said in the daily Breakfast with Dave report. “However they never die simply of senior years. They die of excessive Fed monetary restraint.”
Rosenberg’s analysis implies that when the Fed makes its move, financial markets are usually only a third of how through the expansion and bull phases.
The market now finds itself in the sixth year of the business expansion and investment cycle, but the economist thinks this makes it look old than it actually is. Rosenberg said we’ve been simply making up for lost here we are at much of this period, because the economy emerges from massive deleveraging.
He highlights employment only returned to the pre-recession peak in April 2014. The S&P 500 took until March 2013 to reach that point, while real GDP did so in the third quarter of 2011 – already the third year of the recovery.
In short, the investment cycle only began two years ago, helping U.S. stocks recover the huge losses from 2007 to 2009. And, as Rosenberg notes, once the S&P 500 finally seems to rebound from bear market losses during recessions, it usually rallies for another 45 months with average gains of 160 per cent.
The market is currently 25 months into that rally and almost 35 percent higher than when a new all-time high was hit. Instead of throwing in the towel using the first rate hike, Rosenberg said time to do so is after the final rate hike. Even then, he notes both GDP and stocks usually have another 20 per cent gain remaining.
He thinks the expiry date for that rate-hiking cycle will probably come sometime late in 2018.
“Until then, chill, and treat corrections, no matter the cause, as just that – bumps on an otherwise upward trajectory,” Rosenberg said.