The Dow Jones Industrial Average, S&P 500 and NASDAQ are all at or near all-time highs? The question for those on the sidelines and wishing to invest it just how high can stocks go?
|Markets as of April 10, 2013|
In posing the question how high can stocks go, we should consider fundamental analysis of individual stocks, the markets in general, the US and world economies, and the prospects of other, non-stock, investments in the near term future. And, one should always consider the lemming effect, the herd following market leaders, even when all of them are heading for the proverbial cliff.
Does Government Policy Set Market Prices?
Wall Street hit a record high and markets across the globe followed. Japan‘s Nikkei 225 index is up to nearly a five year high. In both cases much of the enthusiasm has to do with Federal Reserve/Central Bank policies. Somewhere around $7 Trillion in equity was erased when the markets tanked in 2008. Governments bailed out banks to keep credit markets afloat and engaged in gigantic stimulus programs to get their economies going again. Much of the enthusiasm in the markets comes from an optimistic view of how much longer the Fed and other institutions will continue to promote growth with their policies. How high can stocks go? That depends on the Fed and other central banks and on the perception of the market.
How about Individual Stocks?
Picking new winners in the stock market typically has little to do with the general state of the economy or monetary policy. The success of a new company has to do with its products and its sales. Intrinsic stock value is the expected future earnings of a company discounted to current cash. When a stock is underpriced as compared to its future earnings potential it is a good buy and when it is overpriced in this regard it is time to sell. How high can stocks go in this regard? Microsoft grew about two thousand fold before it corrected and leveled off a few years ago. No matter what the economy is doing there is a bio tech company out there that will come up with a cure for diabetes, Alzheimer’s, or heart disease. How high can stocks go when the company has a unique product? The sky is the limit.
Is the Market on Track or Is the Market Crazy?
If you believe that the world economy will get back on track, that North America and Europe will regain full financial health, that these two giant economies will continue to lead in innovation, you want to own stocks in these economies. If not you will want to look elsewhere. If you believe that the BRICS nations will grow and prosper you will want stocks in Brazil, Russia, India, China, and South Africa. If you think there are problems, such as potential BRICS development bank problems that we mentioned recently, you will want to be careful there as well. As we consider how high can stocks go we should also consider what will happen if there is another major shock to the markets such as an expansion of the war in Syria or even conflict with Iran over its nuclear ambitions.