ETF Review and Outlook
DIA, SPY and QQQ
By contrast to received wisdom, the financial forum is entwined with the real economy not only in the future but also the present which happens to spring from the past. In view of the jumbling, the shrewd investor has to examine the milestones in the backward direction as well as the outcrops in the current environment in order to sketch out the conditions downstream.
Moreover, the slant of the markets depends on the forces at work right now along with the contours of the landscape downstream. For this reason the survey here draws partly on, and fleshes out, the drivers at work over the coming year and beyond.
From a pragmatic stance, the companies listed in the stock market earn their living within the economy at large. That much is true even in the case of virtual firms such as online retailers and brokerage houses. As a result, the aggregate level of economic output plays a vital role in corporate earnings and thus the price action on the bourse.
Within the tangible economy, the conditions have not changed a great deal over the past few years. On the downside, the politicians of the West have gone out of their way to solidify the distortions in the housing sector in the aftermath of the financial crisis of 2008.
Another bungle involved the prop-up of some of the biggest and most unproductive firms in the economy. In particular, trillions of dollars round the world were handed out as bailouts for a gaggle of gutted banks that had succumbed to their own reckless schemes.
To make matters worse, the struts put in place have prevented the property market from shedding the mountain of blubber it had built up during the manic bubble in real estate prior to the financial blowout. Due to the shackles in place, the economy as a whole has been doomed to gasp and limp well into the 2020s.
In this shaky environment, the prospects for the industrial nations are lackluster at best. A glaring example lies in Europe, which continues to wallow in the doldrums. Given the torpor of the rich countries, the emerging markets round the planet will have to plod along despite the general weakness of the world economy.
On a positive note, though, the U.S. is starting to recover from the disruptions stemming from the housing craze in the run-up to the financial flap of 2008. The mangling of the markets during the bubble was compounded by a welter of knee-jerk reactions by impulsive politicians, as in the likes of lifelines for ruined banks along with crutches for real estate. After stumbling for half a decade in the aftershock of the Great Recession, the U.S. economy has finally taken the first tentative steps toward regaining its health for real.
In a nutshell, the outlook for the global economy is a mixed bag. For the world as a whole, the volume of output should increase by about 3.0% this year – after adjusting for the pinch of inflation based on the official figures cooked up by government agencies. The forecast for 2016 is marginally better, amounting to a growth rate of 3.3%.
In line with the norm, the developing regions as a group will contribute the lion’s share of the increase in global output thanks to an upturn of 4.8% in 2015, followed by 5.3% the next year. By contrast, the rich countries will muster a mere 2.2% this year before crawling up to 2.4% in 2016.
On the financial front, the stock market faces a raft of challenges over the year to come. Moreover, some of the biggest stumpers have nothing to do with the substance and reality of the marketplace but everything to do with the perception and bias of the investors.
As an example, the Dow index will run into a huge obstacle at the nice, round number of 20,000 points. As things stand, this barrier will crop up by the summer. There are of course lots of other factors that prod the market to the upside as well as downside.
As is often the case at the beginning of the calendar, the stock market is slated to thrash around more than press ahead during the months of January and February. After the spate of churning, however, the bourse should marshal enough energy to climb higher in earnest.
On the upside, the first milepost for DIA – also known as the Diamonds – lies at the $189.07 level. Based on current conditions, the landmark should be reached by the spring.
Shortly thereafter, the stormy currents of the summer will as usual throw the market for a loop. Despite the tempest, though, DIA is slated to waddle higher by a modest amount. In that case, the peak for the summer should arise around the $198 level.
After reaching the vertex, however, the Diamonds are unlikely to hold onto the summit. Instead the market will fall back and flail around for a few months.
Unfortunately, the outlook is not much better as we move into the second half of the year. For one thing, the market has a habit of floundering during the dog days of summer then flopping with the gusty winds of autumn. More precisely, the bourse will enter its weakest stretch of the year as September rolls around.
One negative factor for the stock market springs from the mien of the Federal Reserve in the current environment. As a backdrop, the central bank decided in October 2014 to wrap up the third and last round of quantitative easing. The act of partial restraint in money printing will ratchet up the cost of credit in the financial forum as well as the real economy. The step-up of interest rates should begin by the third quarter.
In line with earlier remarks, the Dow index faces a monumental block at the 20,000 level. Once the benchmark reaches the blockade, the market is bound to break down. The crack-up that ensues should amount to a mini-crash from peak to trough.
In the most likely scenario, the market will bump up against the landmark a couple of times before breaching it on the third try. The travails of the Dow will of course be mirrored by the labors of the Diamonds which will have to grapple with their own hang-up at the $200 mark.
The next hurdle lies in the perennial spate of upheaval in the autumn. Thanks to the heaving and shoving of the madding crowd at this time of year, the Diamonds are destined to trip up and fall flat by way of another near-crash.
After that knockout, the ground will be cleared for a push to the upside in the final stretch of the year. After punching through the roadblock at $200, the next milestone lies a tad higher at $210. The latter figure stands around 18% beyond the closing value of $177.88 notched at the end of last year.
Turning to the political front, 2015 happens to be the run-up to a Presidential election in the U.S. As the winter rolls around, the air will crackle with the platitudes and promises of politicos about the need to create jobs and lift incomes, furnish handouts and bolster business.
The resulting spurt of busywork coupled with the bluster will kindle a wisp of hope across a large swath of voters and imbue them a warm, fuzzy feeling. Moreover a spree of wanton spending should in fact give the economy a boost over the short run despite the crushing cost to be paid by the entire society over the medium range as well as the long haul.
As a rule, the financial forum anticipates the course of the real economy. For this reason, the bourse in particular is poised to head higher this year.
The buoyant tone of the pre-election year, coupled with the sturdy uptrend of the bourse in recent years, is a godsend for the investor. As a result, the Dow yardstick could end up surpassing the projected target of 18% by a goodly amount. In that case, the gain in percentage terms could reach well into the 20s.
On the downside, though, the main argument against a huge advance is of course the precarious state of the economy. The chains of production and distribution were bent severly out of shape during the riot of speculation in real estate prior to the financial crisis, followed by the orgy of government spending and money printing in the years to follow. Given the breadth and depth of the disruptions, the economy is only now starting to take the first steps toward recovering in earnest from the abuse it received at the dawn of the millennium.
A second reason for caution involves the fact that the stock market is already puffy and overpriced to some degree. In particular, the average ratio of price to earnings for the stocks within the Dow index has been lounging on the high side for years on end.
On the other hand, a pricey market can become even more pricey before it regains its equilibrium. For this reason, the Diamonds could well enjoy a giddy ride to the upside by this time next year.
In addition to the circle of 30 titans tracked by the Dow index, another leading benchmark lies in a troupe of 500 heavyweights monitored by the Standard & Poor’s company. The yardstick is tracked by an index fund which runs under the banner of SPY.
Meanwhile the third benchmark of the bourse deals with the Nasdaq market. On this exchange, a broad-based yardstick known as the Composite Index is widely reported by the financial media. On the other hand, a subset comprising a hundred giants is the vehicle of choice from a pragmatic stance. The tracking vehicle for the latter touchstone lies in QQQ.
This report examines the special aspects of SPY and QQQ which distinguish their prospects from the outlook for DIA. Moreover a detailed forecast of each of the broader benchmarks is provided.
To sum up, the trio of touchstones for the U.S. bourse will tramp onward and upward through a series of zigzags as usual. The story will unfold in a similar fashion for the other stock markets round the globe.
Although there are plenty of exceptions, the bourses in the budding regions often advance roughly twice as much as the Diamonds or Spyders. In that case, an upswell for DIA should accompany a strapping payoff for the emerging markets.
On a negative note, though, the feisty markets also tend to be the most flighty. To bring up another bogey, the mass of investors remain somewhat skittish. As a result, the international crowd may refrain from moving with gusto into the sprouting markets until the end of the year or even later.
The task of forecasting this year poses a case study of uncommon complexity. For starters, the forces at work include a host of routine drivers as well as wayward factors. An example of a commonplace theme lies in fundamental facets such as business conditions and monetary policies, or technical features as in multiyear trends and seasonal patterns.
To add to the muddle, though, a bunch of issues crop up only once in a few years or even decades. An example of the former is the hefty impact of the political theater on the stock market in the run-up to a Presidential election in the U.S. Meanwhile an instance of the latter is the psychic barrier posed by a towering landmark that emerged in the midst of an epic bubble on the eve of the millennium.
On the upside, the hoopla on the political front will infuse hordes of investors with hopeful views regarding the prospects for the real economy along with the stock market. On the downside, though, a gauntlet of mental roadblocks will hamper the madding herd and prevent the market from gaining its stride.
As we noted earlier, an example lies in a hulking barrier for the Dow index at the 20,000 level. Another sample is a dual blow against the Nasdaq benchmark due to its historic peak at 4,816.35 points formed at the height of the Internet craze, followed by a mental block at the hulky landmark of 5,000 points.
Due to the lineup of blockers, the stock market is destined to thrash around even more than usual during the second half of the year. Along the way the leading benchmarks of the bourse will encounter a flurry of mini-crashes. The repercussions will of course be worse for the minor leagues such as bantam stocks and emerging markets.
From a larger stance, the throng of international investors will continue to fret over the icky conditions in the mature economies. An example involves the quagmire in Europe resulting from the housing bubble, followed by a slew of witless policies ranging from the rescue of braindead banks from their own rabid bets to the riotous spree of money printing by central banks.
As we noted earlier, the buoyant forces that lend an upward tilt to the U.S. bourse will be negated in part by a cluster of mental blocks. For this reason, part of the effervescence should spill over into foreign markets. One beneficiary will be the European market whose dire straits will be offset to some degree by an influx of funds from local investors as well as foreign sources.
Another recipient will be the budding markets that have faltered for half a decade in the wake of the Great Recession. On the upside, the emerging regions generate the bulk of economic growth for the world as a whole. Sooner or later, a tidal wave of money will pour into the lively countries in line with their superior performance in the real economy.
The inrush of mint could well begin this year. In that case, the bourses of the sprouting regions will snap out of the funk of recent years and revert to their usual habit of outpacing the benchmarks in the mature countries.
NOTE: The full report is a document in PDF form. The fresh update of the report, listed as “Forecast of Top Index Funds for Investing in the Stock Market”, may be downloaded from the Library at MintKit Core.