When I talk to people, a lot of them seem to be confused about what’s been happening recently with the US stock market (and, consequently, with the Canadian stocks, since we are so tied up with each other). The unemployment is at the record low, the GDP is growing, then how can the stock market be falling during such a “roaring” economy? In this blog post I will try to explain what’s going on in really simple terms for those who do not have a background in economics. Of course, this is a huge topic, so I will just be focusing on a few of the factors in play.
The reason why the current trend is happening largely lies in the recent US government policies, particularly the Republican corporate tax cut implemented about a year ago. This tax cut has given the American companies a lot of extra cash, which is good, is it not? Well, in case of a struggling economy and high unemployment it would definitely have made sense to try to support the industries this way, but think about what is happening now. The unemployment was already near a record low even BEFORE the tax cut. Now, with all that cash, the companies would love to expand their operations, but where would they get the workers to do that if nearly everyone is already employed? While there might be a few businesses that can scale up without hiring more people, for the vast majority of companies this is not a viable option, especially with the stricter immigration policies that limited the number of foreign workers able to fill these new potential jobs.
Well, if the companies can’t grow their business much, what are they going to do with all of this extra cash? As it happened, many of them chose to spend it buying back their own stock, which drove the stock prices higher, or giving huge dividends to the shareholders, which would often get reinvested into stocks as well. Seeing the uptrend in the stock market, pretty much everyone else wanted to jump aboard this train and buy stocks, too. This is how the current stock bubble, which is a situation where the majority of stocks are significantly overvalued compared to their companies’ actual worth, has formed. The production, as measured by gross domestic product (GDP) numbers, has not really increased that much, maybe 6-7% since Trump was elected (even the best GDP quarterly growth numbers during the Trump administration are behind some of Obama’s numbers), but the stock market is up 40% compared to November 2016! Unless you theorize that the stocks were significantly undervalued back in 2016 (why?), what else can the current situation be if not a bubble? And while it may last a bit longer, I don’t see how this bubble can survive for more than another year or two, after which, and quite possibly much sooner, the stock market is likely to crash.
Even during a great economy, the problem with a crash like that is that people (and companies) tend to overextend their finances. When everything is rosy, they buy bigger houses, newer cars and other things on credit that they can’t really afford, just relying on the stock market or other risky investments to pay their bills. Once the market goes down, this source of income will no longer be available, which may result in a big real estate crisis like the one in 2008 and an overall slowdown of the economy, possibly even another recession. The fast that the US government is deeply in debt and can’t really afford another stimulus package without overextending its own financial position is not going to help, either.
If I were still invested in the stock market right now, I would definitely get out. While those who put their money in for a really long term may decide to stay in and ride it out (since sooner or later the economy tends to come back, at least based on history), if there is any chance that you will need the money within the next few years, I believe now is the time to sell. At least I would. Of course, I am not a financial consultant, so take my advice at your own risk.