Stocks Expected to Tumble in Second Half of 2017
Stocks are soaring on an illusion and could come tumbling back to Earth by 10% in the second half of 2017; however, that estimate may be far too conservative. It’s called the Icarus Trade and will present investors with a number of excellent investing opportunities.1
Whether you remember your high school Greek mythology, you’re probably aware of Icarus. Daedalus made a pair of wings held together by wax and gave them to his son, Icarus, and warned him not to fly too close to the sun. Icarus ignored his father’s warning, flew higher and higher, and got too close to the sun causing his wings to melt and left him spiralling back to earth.
Investors may be in the midst of the Icarus Trade, and stocks could experience a meltdown in the second half of 2017.
Stocks have melted up and are at record levels since Donald Trump won the U.S. election in November. The Dow Jones Industrial Average has increased 12.5% since then; that was just four short months ago. A 12.5% gain over a 12-month period would be considered great. Over the same time frame, the S&P 500 has advanced 10%.
Investors are increasingly optimistic that President Trump’s economic policies will be good for the U.S. economy and corporate earnings. As a result, it is expected that bullish investors will send stocks higher in the first half of 2017; maybe as much as 10% higher. That would lift the Dow Jones Industrial Average to around 22,650 and the S&P 500 to around 2,575 from present levels.
It might be difficult to believe the stock market will experience a solid correction in the second half of 2017, especially with the markets at record levels, investor confidence soaring, and bullishness up. Even the CBOE Volatility Index (VIX), better known as the “fear index,” is at its lowest levels since 2008.
But it’s that complacency, euphoria, and bullishness that could send share prices tumbling. First, the markets are significantly overvalued: according to the Case Shiller CAPE PE ratio, the S&P 500 is overvalued by almost 82%. The ratio has only been higher and longer twice: in 1929 and 1999.2
Second, investors like Donald Trump’s campaign promises but have no idea how they will play out. Donald Trump’s $1.0 trillion infrastructure plan, fewer regulations for Wall Street, and tax cuts are supposed to stimulate the weak economy he inherited from President Obama.
In fact, President Trump recently announced he will be unveiling a “phenomenal” tax plan in the coming weeks—one that is the “most ambitious tax reform since the Reagan era.” President Trump will certainly introduce tax cuts, but it’s unlikely they’ll have the same impact President Regan’s did in the early 1980s. 3
Investors are also concerned that Trump’s “America First” platform could lead to a trade war with China, the world’s second-biggest economy.
And there’s the caveat: if President Trump’s economic polices don’t deliver, the economy weakens, and corporate earnings fail to gain traction, investors will get impatient, nervous, and run for the exits, stocks with nose bleed valuations will melt (stock market crash) and investors will get burned.
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With all the euphoria on Wall Street it’s too early to call for a meltdown in stock prices. Fortunately, this provides investors with time to position their investing portfolio to take advantage of the Icarus Trade.
That’s because there are proven trading strategies that can help investors make profitable trades no matter what the markets are doing: whether stocks are going up, down, sideways, or stocks are crashing. The better your understanding of the stock market, the better your chances are of making consistently profitable trades.
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- “Call it the Icarus trade: Bank of America sees 10% melt-up, followed by 10% meltdown,” Financial Post, January 11, 2017; http://business.financialpost.com/investing/global-investor/call-it-the-icarus-trade-bank-of-america-sees-10-melt-up-followed-by-10-meltdown.
- “U.S. Stock Markets 1871-Present and CAPE Ratio,” Yale University, last accessed February 16, 2017; http://www.econ.yale.edu/~shiller/data.htm.
- “Donald Trump’s US tax reform: What we know so far about his ‘phenomenal’ planned cuts,” The Independent, February 10, 2017; http://www.independent.co.uk/news/business/news/donald-trump-us-tax-reform-latest-what-we-know-phenomenal-plan-cuts-regulation-banking-corporation-a7572941.html