Sentiment has improved, but other factors have helped drive the strong move upward in the stock market. Let’s take a look at them.
We should start by stating the obvious: the potential for strong fiscal stimulus to the economy is a relief after the heavy monetary support provided by a generous Federal Reserve policy. The Fed had fought a long battle against deflation. It tried to stimulate the economy by increased liquidity to boost lending, but that didn’t happen. As a result, the economy has been growing at far less than its potential with little inflation.
Late last year, there was an upward turn in earnings, and that is probably the main reason for the stock market rally. For several quarters, companies were mired in an earnings recession, plagued by downward revisions amid challenging conditions.
In Q3 2016, that recession started to end. Earnings pivoted upward and are now going higher for the first time in a few years. It may not be much now, but the trajectory signals continued earnings growth. If a fiscal stimulus comes to fruition, there is plenty of room to be optimistic.
Remember that the stock market is a forward-looking indicator. It prices future earnings growth into current stock prices. As a result, it is one of the most accurate forecasting mechanisms out there. Because the growth in earnings won’t last forever, timing your trades is critical.
Finally, the question must be asked – would we have had a similar stock market rally if Hillary Clinton had won the election? The turn in earnings late last year would still have sent the markets higher, but of course we’ll never know.
For now, follow the earnings reports, sentiment indicators, and stock prices and play your trades accordingly.
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