By Parke Shall
The markets in turmoil has been a talking point for the last few weeks and has led to a start to 2016 that a lot of long only investors would like to forget. All we hear about on the financial news networks and on financial websites is the price of oil, the market crashing in China, and the strength of the US dollar. These are all major catalysts that have kept pressure on US equity markets to start this year.
^RUT data by YCharts
Many people were expecting this pressure. There have been concerns brought up about the high-yield debt market, many people knew that China was working itself into a bubble, everybody knew that there was going to be pressure on energy and oil and gas, and we knew that after seven years of a booming market that the Federal Reserve had to finally raise interest rates so that savers, like my parents, could finally receive some of the benefits of our economic picture looking far better than it did in 2008.
Why this correction comes as a surprise to some people is unbeknownst to us. We have been saying throughout our articles over the last year that we expected the Dow Jones Industrial Average to touch 15,000 before steadying and keeping itself in a trading range. We hate to be the bearer of bad news, but markets simply cannot keep going up and up.
That hasn't stopped some in the financial industry (who should know better) and on the financial news networks from tossing around the notion of QE4. People are already discussing whether or not the government should be getting involved with quantitative easing in order to slow down or try to prevent the fall in the markets.
This idea is unconscionable to us and it absolutely cannot happen.
The signal that the Federal Reserve would be sending the equity markets if they were to start quantitative easing just months after their first interest rate hike would be a signal that they do not have a steady hand and cannot be trusted. Their credibility is already under fire after all of 2015 when the FOMC kept flip-flopping on when they were going to finally raise rates. Now, they have a plan and according to comments last week from NYC Fed chair Dudley, they appear to be sticking to them. For this, the first major consistency we have seen from the FOMC in months, we applaud them.
As we said earlier, markets have to go down. That is how markets work. They go up when there is a boom and they go down when there is a bust, but at the end of the day free market supply and demand must dictate the prices of commodities and equities, otherwise it is a rigged game. Not only does it become a rigged game if the Fed steps and again, but the Fed could be making things significantly worse. Look at the state of China for example. China's markets are in turmoil not only because they're in a bubble, but also because Chinese investors do not trust the Chinese government. The Chinese government has tried to step in and stop the market plunge, and we think that is ultimately going to make things significantly worse for the country in the long haul.
The Federal Reserve needs to continue as planned with their rate hikes, and the investing public needs to remember that it wasn't long ago the Dow Jones Industrials were at 7000. Even at today's correction levels, we are still double what we were during the subprime crisis.
The Fed needs to recognize that oil is one of the big factors that is keeping the stock market down. If you have been watching the market over the last few weeks, you would have seen that it is basically moving in lock step with oil futures. Oil may go lower, and it may bring the market down with it. However, oil is not going to continue lower for much longer. We are not even talking about the price of oil recovering, we are just talking about the price of oil bottoming. If oil trades down to $20 a barrel, but then finally steadies there and does not move lower, our markets should have time to take a breather and potentially steady themselves as well. If the Federal Reserve does not understand that this correction is temporary and necessary, it would be absolutely frightening for all investors in US markets.
Part of the blame needs to be placed on financial pundits who cry wolf to the Fed every time markets begin to pull back slightly. For instance, last night Jim Cramer was on his show carrying on and on about why the Fed has made such a terrible mistake in not keeping rates at zero. Mr. Cramer is only saying this, we believe, because he panders to long only investors. Instead of blaming the Fed when the market pulls back, Mr. Cramer and other financial pundits would be better served using their time to inform investors both why bubbles happen and how to profit from them. Yet both of these concepts remain esoteric in the financial world, where if the markets go up 500 points in the day it is "business as usual," but a 500 point down day warrants special programming and prolonged discussions about panic and capitulation.
The Federal Reserve absolutely cannot play into this long only hand that permanent bulls have tried to get them to pander to. Little do people know, this type of thinking leads to volatility that would make the past three weeks look like normal trading days. If we continue to push and push and push the market higher at any cost, we are going to fall significantly and violently when a sell-off does occur.
We absolutely must allow consumer sentiment and macroeconomic data, along with the investing public, to dictate the price of equities. As Rick Santelli always says, the Federal Reserve's job is to be a clinical third-party observer, and not to control the direction of the markets on an everyday basis.
It is not the Federal Reserve's job to monitor whether or not the Dow or the NASDAQ is up or down 1% in any given day or 5% in any given week or 10% in any given month. We are potentially having the worst start to a year that we've ever had because of the previous action the Federal Reserve has taken. We are absolutely out of our minds to be watching the market on a daily basis and asking the Federal Reserve to act based on one week or one month's performance without any type of systemic risk or catastrophic macro economic data.
QE4 would be a complete and total disaster that would have an entire generation of investors fail to understand how markets work and lose their confidence in the system as we have grown to know. It absolutely cannot happen, and we are confident, although not as confident as we once would have been, that it will not happen.
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.