When Will it End?

(Today’s theme music: The Yardbirds, “Over Under Sideways Down”)

I’ve been fielding an increasing number of questions recently that share a similar theme: “have we run too far?”, “is it time to lighten up?”, “should I sell?”, that sort of thing.  And for better or worse, most of my answers are more elaborate versions of “don’t fight the tape”, “be fearful when others are greedy”, and “markets can remain irrational longer than you can remain solvent”. 

Rather than simply reducing today’s piece to a pithy series of time-tested adages (though many of you might welcome the extreme brevity that would entail), since these are exactly the sort of questions that investors should constantly be considering, we should do some justice to them.

Momentum has clearly been the most important factor driving a wide range of investment returns, most notably in equities and cryptocurrencies. 

But, since “trees don’t grow to the sky”, it is typical that all trends — no matter how well entrenched – come to an end at some point.  The questions are “when?” and “how?”.  The how is the easier part, if only marginally so.  Trends are like Newton’s First Law – a market in motion will tend to stay in motion unless acted upon by an unbalanced force.  Thus, something arises that interferes with the momentum.  That could be a change in a company’s ability to meet its earnings or guidance, a set of fiscal or monetary policies that change investors’ calculus, or simply exhaustion.  Good luck predicting when those might arise and whether they are significant enough to alter investors’ psychology.  

Right now, that psychology is quite bullish and forgiving. 

Looking ahead, investors need to consider what is priced into markets right now versus what might be an undigested positive.  It is certainly quite helpful to stock valuations that 15% earnings growth for 2025 is being priced into the S&P 500 right now.  But if we’ve also priced in, say 2-3% real GDP growth and 2-3% inflation, where will the incremental 9-11% growth come from.  That’s a potentially tall order, providing quite a bit of risk for corporate earnings.  And what might transpire if there are increased tariffs (talk of which is being largely ignored right now), large cuts in government jobs and spending, mass deportations, or a side-lined FOMC?  All of which could offer significant negative surprises, at least in the period after their announcement.

But with the exception of a change in Fed policy, none of those are likely to occur in the near term.  While there is an FOMC meeting on December 18^th, the new administration doesn’t take office until January 20^th (and the market will be closed for Martin Luther King Day).  Investors are banking on a market-friendly set of policies, and there will be little to change that perception until then.  I am by no means saying those perceptions are wrong, but instead that the market may be under-pricing the risk that some policies might have unintended consequences. 

There are lots of positives priced into a wide range of assets right now.  But think about whether all the good news might already be priced in.  If not, rally on.  If so, some caution is warranted.