What’s up with the Stock Market?

As I write this, the stock market is up significantly yet again despite record unemployment and riots throughout the United States.  In a prior life, I was an equity analyst.  Following the markets is a hobby. (Yes, I’m a nerd.) so that makes me just as qualified as any other yahoo to opine on the stock market.  Without further ado, a few observations. 

  1. The stock market is not the economy.  The stock market is not the economy.  Repeat that over and over.
  2. Over the long run, a company’s market value should reflect the present value of the future earnings of the company.  Present value is determined by discounting the future earnings stream by a discount rate, typically defined as the risk-free rate (US treasury rates are often used.) plus an equity risk premium.  Interest rates are extremely low, making these models spit out crazy results.    
  3. Recent events favor large companies, especially large technology companies.  Guess whose stocks are going up?  As of June 1, 14 stocks represented 33% of the gains in the S&P 500 since its March 23 low.  Microsoft alone added 5% of the total increase in the S&P 500 from March 23 to June 1.  I hope you owned it.  (I do not directly own MSFT.  Darn.)

4. The Federal Reserve and US Treasury have thrown gobs of money into the markets.  Liquidity is not an issue.  That money has to go somewhere.

 5. Would you rather loan, for example, Germany money at a negative interest rate (they will pay you back less than you gave them) or own US stocks? See point number 4.   

I think the US economy is in for a tough few quarters ahead.  I have no idea what the stock market will do in the next few quarters.  I am confident, however, that many stocks will go up over the next ten years.  The ride will be bumpy (it always is) but the trend will be up.  Only invest in stocks if you have a long-time horizon and the ability to not panic when investments go down. 

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