Can you give me your view?

?As there is a change in monetary policy in the US it is obvious to see a pause in 6 years bull trend in stock markets. For the same reason an overbought sentiment on monthly charts is being unwound. We cannot expect a bull revival yet. Potential tests of resistance and false breakout yes, but then I would expect prices to slide down towards supports (S&P500 to 1800). 

If Fed raises rates in 2nd half of 2016 we may see further pressures towards pre-crises 2007 highs. What’s the potential and probability that this will happen if we think of it as a great discount but with further pressures from corporate bonds expiring in 2018 and 2020? It does not give me enough confidence for this scenario. I rather think of rate hikes will ban markets from establishing higher highs, keep markets in range until corporate bonds expire causing bigger sell off towards 2007 highs and from there we may see another secular leg upwards. What is your take on my 2 scenarios? Are there other scenarios that you can think of?  Can stocks rise when Fed tightens?

Eoin Treacy's view

Thanks for laying out two possible scenarios but as you know guessing the likely level of a market three years from now is fraught with uncertainty not least because no one knows what is going to happen between now and then. 

To answer your last question first. Yes stocks tend to rise when the Fed begins to raise rates because they wouldn’t tighten without the economy being healthy enough to tolerate them; so it is generally a vote of confidence. However as rates rise they represent an increasingly strident headwind. The problem on this occasion is we are in a new paradigm where no one knows if past relationships will be borne out. For example the market experienced a sharp pullback shortly after the Fed raised rates. 

There are so many scenarios that could play out such as corporate profits falling further or doing better, margin trader balances increasing again or contracting, wars somewhere in the Middle East or Asia, the Presidential election, emerging markets doing better or worse, the Dollar strengthening or weakening. Those are simply the known unknowns and potential for black swans is also present. Against that background I am very reluctant to tell the market what to do not least because it doesn’t listen. We can only tailor our strategy to the reality provided by the market. 

Right now the S&P 500 is testing the region of the November peak and steadied today from the 2050 area. A move below that area would signal more than a temporary pause in the region of the upper side of the more than yearlong range. I agree the long-term monthly chart looks top heavy at least for now but there is little sign of a catalyst just yet to send prices down a quarter from here to test the upper side of the 2000-’12 range. 

I keep a reasonably close eye on BB spreads because if they breakout on the upside it is unlikely to represent good news for stock markets and the trend looks increasingly like the path of least resistance is upwards so my feeling is that we are in for a more volatile environment.   

I’m on the record as saying markets need to get over the hump of normalising monetary policy before a secular bull market can become the primary influence on investor actions. I think it is worth remembering that any substantial shakeout , whenever it occurs, would result in valuations improving and quite possibly would be the trough many investors who missed the 2009 low have been waiting for. 

Long-term there are many reasons to believe we are at the beginning of a secular bull market but the eventual normalisation of rates represents perhaps the most pressing threat to it enduring.