There is an epic battle brewing out there, and it’s not Mother Nature creating havoc with our nation’s weather. The issue is the dichotomy of a rising stock market and a clearly worsening economy. This has led many investors to ask the question: “Can Stocks Rise in a Horrible Economy? “

The answer is and has been a simple “yes”. Stocks move on corporate earnings while the economy is a much more complicated beast. Currently, the economy is being affected by the natural demographic cycle of an aging population, who is spending less, combined with a severely over indebted population desperately in need of balance sheet repairs. This is creating less demand in the economy. Less demand leads to less supply of goods and services needed, so fewer people are required to produce those reduced goods. That will keep the unemployment rate extraordinarily high and make a true economic recovery elusive. I discuss this in depth in my recent   interview.

However, stock prices correlate more to earnings and earnings have been stellar. This is, in large part, due to the great shakeout going on in our economy where companies are fighting for survival. They hoard cash and strengthen their balance sheets by cutting costs and laying people off and/or not hiring. It is survival of the fittest, making the larger corporations better able to survive an economy like this, at the expense of smaller less efficient companies. Some will be bought out, some will merge and some will go by the wayside. Anyway you look at it; it leads to fewer jobs and a slower overall economy but with very selectively efficient corporations left standing.

There are also several other Gail force headwinds we’re up against. Housing is in a veritable depression and will remain that way for at least several more years. Our deficit is growing to a level that would rival a banana republic and inflation is biting all of us in the butt. These issues, and more, will continue to hold the economy back and eventually bring down stock prices, but not before at least one more quarter of exceptional earnings. In fact, the recent barrage of negative news will likely have a positive effect on stocks, as it is bringing down expectations to the point where we could get overwhelming positive earnings surprises, which will take the market to new highs. At that point however, it is very possible that we could be at peak earnings for this cycle and time to get defensive.

Although, all bets are off if the Helicopter Ben and the Federal Reserve come through with another round of stimulus or QE “whatever”. With the election coming up, they will have no choice but to do something. The market is simply addicted to stimulus and at the very least, they will continue with QE Mini-Me. This fact was echoed yesterday when Moody’s Investors Service announced that they may downgrade the debt ratings of Bank of America Corp, Citigroup Inc and Wells Fargo & Co, due to the end of government support for the banking system initiated during the financial crisis.

While stocks have some life in them, once we get near earnings season, investors have to be invested properly and make sure they are getting the best returns with the least amount of risk possible. Investing is not an all-in or all-out game and it is critical to invest for need, not for greed!

… And that’s where we can help. Our active, hands-on Top-Down Tactical™ investment management strategy for managing portfolios can help you manage risk and deliver returns. If you would like to discuss the market, economy or simply get a free second opinion on your portfolio, call me for a free consultation today at (916) 925-8900.

Regards -Keith Springer