I’m not afraid of talk of a 45% stock market sell off

Jeremy Grantham, one of the ‘once upon a time’ good market callers of big funds management group GMO in Boston, has tipped a 45% crash of the stock market. And it comes when newspapers are asking if bitcoin’s near 50% crash since November is the canary in the coalmine.

I’d say history tells me that this is a lot of exaggerated negativity. For the courageous, it’s a buying opportunity – but I’m not saying to buy right now.

The one-year chart below of the S&P/ASX 200 Index is worth considering.

S&P/ASX 200

Source: nabtrade

Over the past 12 months, we’re up 4.35%, but since the start of this year, we’re down 6%. How come? Try the Omicron hit to business revenue, profits and jobs that hasn’t helped share prices. This negativity hasn’t been seen in much of the economic data but it will come through soon.

But this is a secondary concern because the fear of imminent interest rate rises by the US Federal Reserve and its plan to stop quantitative easing (QE) is really spooking US shares and particularly tech stocks. It’s why the S&P 500 Index is down 8.3% since January and I suspect until we hear from the Fed this week, there could be more stock market sell-offs.

So, to be clear, the current market concerns are all about the end of the historically low interest rates that were used to keep the global economy out of a pandemic-caused Great Depression. Now is the tricky bit — the raising of interest rates and how economies, company profits and share prices react.

Once again, I think history makes me comfortable about what should happen to stocks this year.

I don’t like arguing with one of the greatest investors ever but I don’t agree with Warren Buffett when he joked that: “If past history was all that is needed to play the game of money, the richest people would be librarians.”

Of course, he’s not ruling out history as a guide for investing but he is saying other issues need to be considered. The share price history of AMP says it’s a buy right now at 92 cents, given its 18-year price range history went from $13 to $5 between 2000 and 2018. But its recent company history says it’s no longer a blue chip company and the past no longer is relevant.

AMP Capital (AMP)

Source: nabtrade

So what’s the history that makes me willing to wait for the time that I turn this sell-off into a buying opportunity?

It comes in two parts.

First, the history of interest rate rises and the stock market reaction is worth knowing. Right now the US Fed has implied three rate rises this year but the bond market is suggesting it could be five. And the CEO of JPMorgan Jamie Dimon has even talked about seven! I’d love to know what he’s been smoking!

If he’s right, then all my positive analysis will prove to be baloney. But I think he’s wrong.

But let’s assume the Yanks get three rate rises or maybe at worst case five. Then history should be noted.

Mark DeCambre writing for marketwatch.com has done his homework and tells us that: “As it turns out, during so-called rate-hike cycles, which we seem set to enter into as early as March, the market tends to perform strongly, not poorly.”

He goes on: “In fact, during a Fed rate-hike period the average return for the Dow Jones Industrial Average DJIA is nearly 55%, that of the S&P 500 SPX is a gain of 62.9% and the Nasdaq Composite COMP has averaged a positive return of 102.7%, according to Dow Jones, using data going back to 1989.” (see attached table)

I think the US stock market run-up was huge and a pullback was overdue but I believe the strength of the post-pandemic economic rebound and the inevitable fall in inflation over 2022 will help stocks rebound as well.

I’ve always argued our market, which hasn’t boomed like the US market, should play catch up, especially with energy, commodity and financial stocks expected to have a good run this year. And this is the second part of why I think stocks can go up this year. History shows that when the economy is strong, despite rising interest rates, the stock market goes up.

In his weekly review, Percy Allan points to Colin Twiggs, editor of The Patient Investor, who doesn’t see a stock market blood bath until credit dries up and employment collapses. We’re still a long way from that.

“We are unsure as to how high the Fed will be able to hike rates before job growth turns negative, but we suspect that the economy is a lot more fragile and may not be able to withstand more than three or four hikes of 0.25%. Stock prices, on the other hand, are likely to remain buoyant until there is either: (a) a sharp contraction in liquidity, most likely caused by QT with the Fed running down its balance sheet; or (b) falling employment, warning of a recession,” Twiggs suggested.

The short-term view is negative for stocks with the All Ords red 10-day trend line falling below its green 30-day one last Friday.

Source: www.incrediblecharts.com

But from a longer point of view, Percy says the market outlook remains positive. “On medium-to-long term trend analysis, the All-Ords index has been bullish since the 20th of October 2020 because its red 30-day trend line has been above its blue 300-day one. The index remains well above its peak before the crash of 2020.”

Source: www.incrediblecharts.com

If I thought there wasn’t going to be a strong global economic rebound and the Fed does what Jamie Dimon predicts and raises interest rates seven times, then I think Jeremy Grantham could be right. But I don’t think the Fed is that dumb.

The Fed meeting this week will be important and maybe this current negativity will persist until March when the first rate rise will happen in the US. Although I’ll be looking for turning points and not only will I be telling you when I see them, I’ll be investing on the strength of them.

Watch this space.

Peter Switzer is the founder of the Switzer Financial Group, and the author of Join the Rich Club. All prices and analysis at 24 January 2022. This information was produced by Switzer Financial Group Pty Ltd (ABN 24 112 294 649), which is an Australian Financial Services Licensee (Licence No. 286 531This material is intended to provide general advice only. It has been prepared without having regard to or taking into account any particular investor’s objectives, financial situation and/or needs. All investors should therefore consider the appropriateness of the advice, in light of their own objectives, financial situation and/or needs, before acting on the advice. This article does not reflect the views of WealthHub Securities Limited.