President Trump says a lot of things — sometimes the facts check out, and other times they don’t.
Trump’s latest statement about the most important topic for stock market investors is likely correct. Let’s explore the issue with the help of a chart.
Chart
Please click here for a chart showing the Federal Reserve’s assets.
Note the following:
• Trump says the Dow Jones Industrial Average DJIA would have been 5,000 to 10,000 points higher if it were not for the Fed.
• The chart shows a dramatic rise in the Federal Reserve’s assets since late last year.
• Since the Fed started printing more money, the U.S. stock market has risen in lockstep with the Fed’s balance sheet.
• The conclusion is unmistakable: The money that the Fed is printing is going into stocks, especially in large-cap stocks such as Apple AAPL, Amazon AMZN, Facebook FB, Alphabet GOOG, GOOGL and Microsoft MSFT.
• The Dow easily could have been higher by 5,000 points if the data from the chart were extrapolated with an assumption that instead of reducing its balance sheet during the earlier period, the Fed was increasing its balance sheet at the same rate as it is doing now, and if the Fed had not raised interest rates previously.
Rise of the mega-caps
Here are the reasons that money is flowing into mega-caps:
• Mega-caps carry very heavy weightings in indexes such as the S&P 500 Index SPX, whose main ETF tracker is SPY. Mega-caps also carry a heavy weighting in the popular Nasdaq 100 ETF QQQ. When investors buy ETFs and mutual funds, the money disproportionately flows into mega-caps.
• This market is controlled by the momo (momentum) crowd. Mega-caps have the momentum.
• Interestingly, even the smart money (professional investors) has been buying mega-caps while selling other stocks into the strength. Please see “Something rare is happening among popular technology stocks.”
• Investors assume that growth in earnings and revenues is on autopilot in these mega-caps. For this reason, investors think that they are taking less risk by buying mega-caps.
Don’t be complacent
Investors should not get complacent even though Trump has succeeded in beating the Fed into submission for these reasons:
• Exogenous events can always occur, such as a virus that is now spreading across China and into other countries. Please see “How an external event could stunt U.S. stocks.”
• Sentiment is getting too frothy. Please click here to see a chart showing the 14% correction in January 2018 when sentiment became frothy.
• Investors ought to look at what is happening now as a mania. All manias eventually end. Before sending me hate mail, remember that The Arora Report correctly called for buying stocks on Trump’s election at a time when most analysts were giving sell signals. Shortly thereafter, The Arora Report called for Dow 30,000 in Trump’s first term. Please see “Here’s the case for Dow 30,000 in Trump’s first term.”
• The Fed may lose control of the bond market.
• Earnings may not come through as well as the market is expecting….Read more at MarketWatch.
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