As I was looking yesterday at the news trying to figure out reasons why the price of oil was rallying over 8%, its biggest rally in 7 years, together with global stock surging, I found different explanations on leading business sites, some of them pointing to different directions:
- Certain news sites attributed the surge in oil and stock markets on hopes that Japan and China will increase stimulus measures -- daily-sun.com , rttnews.com, dailymail.co.uk.
- Some explained that it is due to European Central Bank President Mario Draghi comments suggesting ease in monetary policy-- CNBC, Financial Times.
- Others pointed to "a larger than expected drawdown on gas inventories" - Yahoo Finance, marketrealist.
- And even some suggested that the surge in oil prices is due to blizzard and freezing weather, resulting in a rally of global stock markets.Reuters, Bloomberg, independent.co.uk.
A catchy, and rather funny explanation, was posted on Reuters "Wall Street surged 2 percent on Friday …… as a cold snap in the United States and Europe sent oil prices sharply higher". Really? Since when do blizzards and cold weather have any effect on Global Stock Markets?
It seems that some market commentators are unable to exactly pinpoint the reasons behind the global markets surge.
What is the real reason behind the rally?
There could be several reasons from short-covering to price bottoming. My view however is that the global stock market rally yesterday had little to do with oil prices.
My opinion is that markets are starting to realize that low interest rates around the globe are here to stay (lower for longer), and Central Banks, including the US Fed, will have to keep loose monetary policy for the foreseeable future, and maybe for several years due to many reasons:
- A fragile world economy: IMF warned in December that Global growth in 2015 is the lowest since 2009. Things are looking worse for 2016. The IMF predicts that 2016 economic growth will be disappointing and the outlook has deteriorated.
- Slowing growth in China: Even with all the steps taken by the Chinese government to combat deflation, including reducing interest rates 6 times in less than one year and loosening access to credit, the impact of these measures is unlikely to be felt in 2016. More fiscal stimuli will be required of China's government to start seeing tangible results.
- Europe and Japan's unsuccessful struggle against deflation will require them to boost the current aggressive Quantitative Easing (QE) measures for much longer. ECB president Mario Draghi reported that low interest rates will be needed for an "extended period" and that there would be "no limits" to the measures used to push inflation higher.
- Commodity Prices: Although the short-term bounce in commodity prices may continue, strong price recovery is unlikely to happen in 2016. Continued low commodity prices make it difficult for emerging markets to balance their budgets and boost economic growth, especially markets which economies are dependent on commodity prices ,. Furthermore, lower commodity prices significantly reduce inflation outcomes, suggesting that further cuts to interest rates will be instrumental to support global consumption for a meaningful economic recovery.
- High US interest rates have a negative effect on World growth: This led to the International Monetary Fund (IMF) Warning of "Spillover Effect" as any increase in US interest rate is expected to compound Emerging Markets problems and further contribute to a global economic slowdown. Higher interest rates accelerate capital outflows from emerging markets and make it more expensive for borrower nations to service their debt.
- With the US Fed becoming increasingly nervous about the current economic data, it is unlikely it will raise interest rates again anytime soon, as such a move risks destabilizing an already fragile world economy, including its own domestic economy.
Therefore, the prospects of ultra-low interest rates around the globe are likely to remain, and in my opinion for a very long time.
Bond Yields' Predictive Powers
US 10 year Bond yields today are around 2.0% and the 30 years at 2.8%, both much lower than they used to be before the 1st Fed hike in December. Is this an indication that the US Fed is likely to lower interest rates soon?
What does that mean to the Stock Markets?
History has shown that an environment of low inflation and slow growth has a positive effect on equity prices as the two main alternatives, cash and bonds have unattractive returns. Most government bonds are currently below inflation, resulting in negative real yield. Furthermore, the 10 year US Government Bond yield of 2.0% is below the average S&P yield of 2.36% and that of the Dow Jones Industrial Average Index of 2.78% (source: wsj.com), which makes equities more attractive, especially high dividends ones. Therefore it is just a matter of time that "smart money" will start flowing into the stock markets again. This leads me to conclude that a strong stock market recovery will happen soon, and we are likely to see new highs for all major indexes in 2016.
High-Yield Investing will remain the best strategy for 2016
Ultra low interest rates together with demographic trends will continue to favor dividend-paying stocks, as baby boomers and retirees will drive demand for income strategies to support their lifestyles, and their longer life expectancy. An investment strategy focused on "strong dividend stocks" is likely to outperform in 2016 as it did in recent years.
Special Note:I have been sharing on Seeking Alpha some of the opportunistic additions my high yield "Retirement Dividend Portfolio" (overall target yield of 6% to 9%). Follow me for future updates.
"Retire with High Dividends" subscribers can access Rida Morwa's premium research articles by logging in to their accounts. "Retire with High Dividends" provides a unique approach to dividend safety through diversification and value investing (overall target yield of 6% to 9%) with 40% of the Core Portfolio allocated to high-yield Exchange Traded Funds and 60% to individual dividend stocks. For more information, press the orange banner below entitled "LEARN MORE" or click here
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.