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September 11, 2018
The U.S. equity markets attract both technical and fundamental traders. Many financial institutions in the world, as well as commercial and central banks, are involved in these markets.
When the Federal Reserve of the United States sets the interest rate policy on the dollar, it looks at the stock market. In a way, this is normal: pension funds depend on what the stock market delivers.
However, trading is a speculation. No matter the market, traders speculate about the future direction of it. If they think it will increase in value, they’ll buy. If not, they’ll sell.
This is valid for all financial products, equity markets included. Yet, the U.S. equity market is a special one for many reasons.
When the Fed moves on rates, it does so to cool the economy (in the case it is overheating and inflation becomes rampant) or to stimulate it (when inflation falls below target and there’s no job creation).
As a rule of thumb, the higher interest rate would cause stocks to decline. The opposite is true as well: lower rates stimulate the stock market.
Therefore, when the Fed starts an easing cycle, or cut rates, the stock market will jump. This is what happened with the 2008 financial crises when the Federal Reserve slashed the federal funds to zero.
It was enough to propel the stock market higher. Moreover, the four quantitative easing programs (when the Fed bought US government bonds) have eased the monetary policy further.
The stock market loved this move. In general, DJIA and S&P500 jumped every time the Fed was easing.
However, now the Fed is in a tightening cycle. Yet, indices are at the highs. How come?
The answer is simple. An index moves based on the weight of the stocks that makes it. Not all companies in an index weigh the same.
Some sectors do like interest rate hikes. Think of the banking sector. An increase in the interest rate leads to more revenues for the banking sector. Hence, banking stocks will end up being bought.
Correlations with the currency market can use as an indicator for the equity markets too. The best example comes from the USDJPY pair.
This pair enjoys a strong correlation degree with the US equity markets. When the DJIA rises, the USDJPY rises too. When the USDJPY is bid, the DJIA has a hard time falling.
Back in the days, the correlation degree was so strong that for every pip higher or lower on the USDJPY pair, the DJIA made a corresponding two points move. Nowadays, the degree is not that tight anymore, but still, holds true most of the times.
Every investor heard of Warren Buffet. He’s the example for all stock traders that, over the long run, investing in the stock market is worth the trouble.
Basically, this guy made his fortune betting against the doomsday. It means that every dip the stock market made, he bought, and bought some more.
During the recent financial crisis in 2008, Warren Buffet and his investment vehicle made some of the best trading decisions possible. Everything, of course, rebounded and the terms he got when the world was in need of cash were incomparable.
A super strong bull market started right after, with central banks printing money out of thin air. Investment vehicles, commercial banks, and even central banks (the SNB – Swiss National Bank is one of the biggest investors in the US equity market) in their desperate search for a yield parked money in stocks.
As such, prices rose, rose and rose some more. After all, if the interest rate offered by central banks is almost zero, what are you, as an investor, going to do with your money? Buy some stocks!
On top of that, the US market is made of companies that live from continuous innovation. This is not something you see in, say China.
In China, the most successful modern companies simply took the American model of a business, changed it a bit and launched it in Chine. Alibaba, the Chinese variation of Uber, and many other businesses in China expanded this way.
After all, they don’t need to reinvent the wheel anymore, when there’s plenty of demand for similar products.
It is not the same in the United States. Companies like Google, Microsoft, Amazon, Facebook, Airbnb, Uber and so on…. changed the way business is conducted in the US and across the globe. Not to mention here Apple and his massive worldwide success.
Because of that, it is difficult to evaluate such a company that continues to innovate. What price would you put on innovation? This is priceless.
Such factors, coupled with the ones mentioned before in the article, have the tendency to keep a buying pressure on the US stocks.
Trading individual stocks is no different, but a bit tricky. Specific dates must be marked in the calendar, like the dividend date, stockholder’s meetings (important decisions will be announced on these occasions), buyback programs, etc.
As a rule of thumb, buyback programs are bullish for stocks. When a company buys back its own stocks, it is a sign it plans to expand, or launch new products, or something bullish for the company
Mergers and acquisitions affect the stock price of a company too. If this is the case, the company that is being bought will always enjoy a bounce.
In most of the cases, the buyer’s stock price will suffer as the new acquisition is an expense for the company. On top of this, cultural integration costs weigh on price too.