While equities have become a bit volatile during the last quarter of the year, it appears with just a few trading days left that major market indexes will post healthy gains yet again in 2014. It’s hard to imagine that just six years and 10,000 Dow points ago, the domestic economy was on the precipice of an unprecedented disaster. With the pendulum having swung hard in the opposite direction, investors may now be wondering if new monies are being exposed to “correction jeopardy” today in stocks.
In credit markets, we entered 2014 with a 3% 10-Year Treasury and anticipation that bonds would have another down or at best ho-hum year. Much to most analyst and retail investor surprise, despite the so-far-successful wind down of the Fed’s bond buying taper, interest rates have fallen nearly 100 basis points. While popular consensus seems to be that the Fed will move to tighten rates in 2015, dovish commentary from Janet Yellen created a robust move in both equities (higher) and bonds (lower) last week.
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The next twelve months should prove rather critical from both a market valuation and monetary policy viewpoint. Here are 5 major themes for both stock and bond investors to monitor that will have an impact on portfolios in the year ahead.
#5: High-Yield Bond Default Rates: Despite continued historical lows for bond defaults, recent volatility in the oil patch has led to a wholesale pricing adjustment for weaker creditworthy entities. Though I somewhat take the view that this is probably a buy opportunity for bonds needlessly hit, investors should nonetheless monitor hopefully judicious high-yield allocations, especially energy exposure. An uptick in defaults would not be a positive macroeconomic development.
#4: The Price Of Oil: The dramatic decline in the price of a barrel of oil was not something most saw coming. As we’ve often seen before, financial markets do not handle sharp near-term pricing movements in any asset category particularly well. As was mentioned above, oil’s weakness has created somewhat of a contagious atmosphere with regard to weak credit entities. While my sense is that pricing will stabilize and perhaps trend mildly higher in 2015, if OPEC continues content to flex its muscle, we have a mild winter, and demand trends continue slack, all bets are off.
#3: Political Climate In Washington: Financial markets continue to shrug off an unpopular President and now severely divided government in the nation’s capital. If our dysfunctional Congress can begin to legislate in a bi-partisan manner once again, it may instill further investment confidence. Frankly, this does not seem destined to happen as diverging views on both social and economic issues are creating friction on both Main Street and Capitol Hill. At some point a widening American divide could make its way to Wall Street.
#2: Will Investors Continue To Gravitate To Stocks?: The rampant rise in stock prices following the financial crisis continues to amaze many. Low interest rates, few other attractive allocation alternatives, online trading, as well as the ability of corporate America to hit its earnings’ numbers has certainly created an allure for equities post ’08-’09. Despite the increasing risks that rising valuations bring about, there’s reason to believe that the party continues in the absence of a macro-catalyst to bring about a sustainable sell off. Mild geo-political-related corrections, concerns over energy, and valuation worries have hit the markets over the past few years, but all downside moves have quickly been overcome. I think this “buy the dip” mentality will persist.
#1 Domestic Monetary Policy: All eyes and ears will be on the Federal Reserve in 2015 as policymakers continue to mull whether it’s in the economy’s best interest to start to tighten the monetary faucet. Though many have begrudgingly accepted the necessity of bank bailouts, TARP, and quantitative easing programs, it seem high time that the economy function on its own merit. Everyone has an opinion in the matter – mine is that the economy is not really strong enough to handle a slew of rate rises, but that the Fed will probably move a quarter point in 2015 – as Jeff Gundlach recent said – just to see what happens. If the stock market continues to rise, it may happen sooner rather than later.
About the author: Adam Aloisi has over two decades of experience investing in equities, bonds, and real estate. He has worked as an analyst/journalist with SageOnline Inc., Multex.com, and Reuters and has been a contributor to SeekingAlpha for better than two years. He resides in Pennsylvania with his wife and two children. In his free time you may find him discussing politics, playing golf, browsing antique shops, or traveling.