To answer this question, we drew an illustration showing the prevailing key expectations that are driving this stock market rally — rapid disinflation (and big interest rate cuts), a soft landing for the economy as well as stronger-than-GDP corporate sales growth and double-digit earnings expansion. And we will explain why all these expectations are nearly impossible to achieve concurrently. In other words, they cannot all happen at the same time — therefore, something must give. Stocks, on the other hand, are priced for perfection. And that is a highly risky proposition.
US stocks started the new year on a strong footing. In the first month of this year alone, the Dow Jones Industrial Average has already made multiple all-time highs while the broader market gauge, the Standard & Poor’s 500 index, has also eclipsed its previous record set in late 2021. The obvious question for investors is whether this uptrend is sustainable; and, for those still sitting on the sidelines, should they chase this rally?
Some analysts have noted that there remains substantial cash on the sidelines that could provide a tailwind to the rally. Sharply higher interest rates and widespread expectations for a recession last year significantly improved the risk-reward for cash versus stocks. As we wrote previously, cash was no longer trash. Many shifted their money into minimal-risk money market funds. With recession fears now all but banished and the US Federal Reserve poised to cut interest rates, would the flow reverse — that is, investors redeploying money into stocks for better returns — over the coming months?
