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Sign of things to come or a blip amid the rally?
2015 is not off to a good start. The S&P 500 was down close to 3% entering Wednesday trading. That’s quite a big drop for the first three trading days of the year.
Is this what we should expect for 2015, or are these typical correction days in an otherwise bullish market?
Investors should remember two things.
First, the stock market is a reflection of psychology more than it is a reflection of reality. Prices move based on many different factors, but all of them – whether programmed into computers or otherwise – come down to human psychology and emotion. Even mechanical models are designed by humans and are subject to an inherent emotional bias when metrics are created.
Reality paints a mixed picture that the stock market does not necessarily reflect. On the one hand, we have seen U.S. GDP improve the last few quarters. Some companies continue to grow same-store sales, their earnings follow in line, and investors push their stock prices up, as one might expect.
On the other hand, the labor force participation rate is at a 30-year low, factory orders fell for the fourth month in a row, the U.S. has added more debt under the Obama administration than it did under the Bush administration, and quantitative easing has arguably created an asset bubble in equities.
And yet, the stock market was up 11.4% last year, on top of much bigger gains the year before. The PowerShares QQQ (NYSE: QQQ), which follows the Nasdaq 100, was up almost 15%. The extent to which the market has been rallying seems disconnected from reality. I mean, just look at the S&P 500 – it has nearly TRIPLED off its financial crisis low.
Are things really THAT good?
In the holistic sense, I do not think they are. I think there are major systemic issues that are going to hurt the market in the aggregate going forward.
That brings us to the second thing you should remember: If you are an investor, don’t pay too much attention to the overall market. Pay attention to the specific companies you have invested in, and for goodness sakes, diversify!
There is no greater protection against a bear market or global economic uncertainty than picking a company whose story you understand, investigating its financials, and determining its long-term value. The world could be drowning in debt, but if you hold a debt collector like Encore Capital Group (NASDAQ: ECPG), you are sitting pretty.
You may have heard the term, “It’s a stock picker’s market.” In truth, you could do no wrong the past few years by hooking up to the entire market and riding the wave. But I think that time is coming to an end. I think now, more than ever, you need to find individual securities – stocks, preferred stocks, bonds, alternative investments – to stay ahead of the game.
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