All Hail the Roaring 20s: Summary

Will we see new stock market highs or another crash?

Stock markets are amazingly resilient in 2020.

Key economic and monetary policy drivers have turned positive.

Stocks are very expensive but are likelier to go up than down.

The greatest macro mystery in this time of Covid is the stock market.

How is it possible that stocks bounced back from Armageddon in March to all-time highs in September, in the face of a sweeping global pandemic and an unprecedented economic collapse?

In other words, what is really driving the stock market, and what does that suggest for the near future?

One way to track the market is with the S&P price index of the 500 largest publicly listed companies in the US.

The full article traces out five distinct boom and bust cycles over the past 20 years.

The fifth cycle has now been underway since the end of March and the open question is: whither the market? Will we continue to new highs and a fully-fledged bull market or resume the descent begun during the pandemic?

Several critical market drivers can help us to find our way towards answering those questions.

First, the relationship between the economy and the stock market: it is changes in expectations about the economy that drive stocks, not the actual performance when it finally arrives.

This is important to remember this year, with the economy still in partial recovery while stock markets roar ahead in anticipation of higher profits in the future.

Where does the economy go from here? Well, in a word, up.

This is not to say that growth will necessarily be robust but there is no reason to expect another repeat recession any time soon.

Overall, a continuing economic expansion is a positive for stock prices going forward.

The next important market driver is monetary policy, conducted by the US Federal Reserve.

The Fed uses two main policy levers these days to affect the economy and markets: interest rates and their balance sheet.

The policy reaction in 2020 saw a $3 trillion swing in the balance sheet, fully three times the reaction in 2008, and interest rates are back down near zero.

This was done consciously to (successfully) avoid a financial crisis, as in 2008, which would have immensely compounded the pain from the pandemic.

Where does the Fed go from here? They have pledged to keep rates flat until at least 2023 and we should expect little change in the balance sheet.

On net, that is highly supportive for stock prices.

Even though the Fed has a powerful role, it is not alone in the markets.

The Fed balance sheet totals $7 trillion today — but financial markets are much larger, amounting to hundreds of trillions of dollars.

So, the market reaction to the Fed is the more relevant metric of their success and of their indirect impact on the stock market.

The full article shows that other markets are currently either positive or neutral for stock prices

This assessment scores the economy, Fed policy, and real interest rates as positives for stocks, and the yield curve and the dollar as neutral but potentially negative factors.

There is plenty of risk in the market already, given high historic valuations, the pandemic, and the pending US election.

However, the weight of evidence is for rising stock prices over time and not a decline and eventual crash. That latter scenario requires a change in fundamentals (renewed recession, tighter Fed policy, or a financial crisis) and it will not be triggered merely by pessimistic expectations.

So, even though stocks are near all-time high valuations, and are therefore very expensive for investors, my guess is that they will only become more expensive. Buy high, sell higher.

All hail the new Roaring 20s and on towards the next peak!

Caveat emptor: No one can predict the market with accuracy, so treat this analysis as one plausible way of thinking about the future.