Let’s face it, we all know ringing in a new year is kind of pointless.
Pick any day other than the first of January, call it the start of a new year, and nothing would really change.
We don’t sell off all our shares, actually realize whatever gains or losses we see “on paper”, and start from scratch. Everything just keeps on moving along.
However, the way we react when a new year starts does matter, and the idea of ending one thing and beginning another — even if it is arbitrary — has a definite effect on how we think.
People get this feeling that they have a blank slate, and in that moment they start to revisit and reevaluate habits, assumptions, and stuff they’ve blindly dismissed.
More often than not, they then promptly forget what they realized. Oh, the folly of man.
In that sense, it is good to rehash some things we know will profoundly affect the market this year, and not settle back into the unprecedented complacency that has taken root in this six-year bull run.
Debt Will Become a Drag
In about six months, we’re going to see a transition from an environment where taking on debt is rewarded to where it is punished.
The Fed is going to start raising rates, barring any massive blow to the economy or market (always remember, they are not the same thing). Right now, that doesn’t seem very probable.
For many publicly traded companies, this will come at the worst time and it won’t be easy.
With interest rates pegged just above 0% for years, existing debt was turned over into cheaper loans, and additional debt fueled share buybacks without affecting cash flow.
Since 2008, $18.2 trillion of bonds have been issued worldwide. Currently outstanding corporate debt has risen over 50% to nearly $10 trillion over the same period.
Meanwhile, capital expenditures dropped, reducing the capacity for meaningful revenue growth.
This will be a gradual process, but as with most things, the current system will work right up until it doesn’t.
For companies with languishing revenue growth and rising debt costs, the market will seemingly turn on them overnight as quarterly reports with disappointing numbers and weak future expectations are released.
The E.U. and Eurozone are Still Falling Apart
Mario Draghi and the ECB doing “everything it takes,” plus massive pressure on Germany to prop up all of Western Europe has let the E.U. and eurozone limp along, but Europe is really stuck in a slow motion meltdown.
Countries are mired in recession or flirting with it. Deflationary pressures have the continent on the brink of collapse, and all sorts of ridiculous ideas like negative interest are being proposed as life support.
The risk is still there for dissolution of the eurozone and profound implications for any country involved, regardless of its role in the fiasco.
Greece seems like old news, but the fallout from the massive fraud uncovered years ago is still panning out.
Greeks vote in elections on January 25th, and polls are showing an opposition party that is vehemently against IMF and EU austerity requirements in the lead.
This is prompting renewed fears that Greece will exit the eurozone. Germany, long critical of the Greek impertinence following bailouts, seems to be fine with it.
The other regional powerhouse, England, is slowly spiraling towards leaving the E.U. altogether.
This may be political saber-rattling, but brinkmanship between bitter opponents doesn’t always find room for compromise, as we’re all too familiar with in this country.
France and Italy are failing to meet their obligations as well, and Portugal and Spain aren’t in much better shape.
All of this is raising the specter of continent-wide contagion yet again, as the flaws of using a multinational currency persist. Bonds and banks would immediately go haywire, and virtually everyone will have to eat losses during another massive credit crunch that would reverberate worldwide.
U.S. Stocks Are On Their Own
As the Wall Street Journal notes, “The S&P 500 index now trades at 16.4 times forecasted earnings over the next 12 months, compared with 15.4 a year ago… the average over the last 10 years is 13.2.”
Stocks aren’t cheap and prices keep driving upward on forward-looking, rose-tinted expectations.
Meanwhile, the rest of the world isn’t looking too pretty. A large divergence between U.S. stocks and everything else has only gotten worse.
2014 saw world stocks slide down almost 7% and domestic stocks climb up over 12%. Here is how the gap looks, courtesy of Bloomberg:
Of course, there is no insulation from the rest of the world. U.S. corporations are overwhelmingly global and roughly 40% of profit for S&P 500-listed firms comes from overseas.
Virtually every other major economy and trading partner is having problems. China is struggling to maintain growth, Japan’s recession appears to be getting worse, and we barely skimmed the surface of the problems with our largest trading partners in Europe.
In this climate, profit and revenue from overseas will suffer, and it will put a large damper on U.S. stocks.
As long as stocks climb, the gap and possible correction only magnifies, but that doesn’t mean we don’t have strong options available to us that can protect our portfolios.
Focusing on the best dividend paying stocks will provide strong income. In times of uncertainty, investors flock to them, providing strong upside potential as well.
