The six-year bull market for U.S. stocks is vulnerable to a sharp decline as Europe’s monetary authorities begin an economic stimulus program that will threaten U.S. company earnings and possibly derail the country’s recovery, a Wall Street strategist said.
“Dollar strength is crushing U.S. profits,” Albert Edwards, global strategist at Societe Generale, said. “And in a situation where we already have an incredibly long U.S. bull market, an ugly end surely waits.”
The European Central Bank last week began buying the government debt of European countries as part of an effort to push down interest rates and spur demand for goods and services. Europe is undertaking so-called quantitative easing just as the U.S. Federal Reserve contemplates an interest rate hike, a mismatch in monetary policy that is making the dollar the most expensive it’s been compared with the euro in 13 years.
Mario Draghi, as president of the European Central Bank, this month began its program of buying 60 billion euros ($63 billion) of government debt a month until September 2016. The ECB’s intervention into the region’s bond markets has not only driven interest rates into negative territory, but also has pushed yield-seeking investors to buy European stocks at more expensive levels.
“Mario Draghi and the ECB’s manipulation of asset prices makes [Alan] Greenspan’s Fed look like a rank amateur,” Edwards said in a March 12 report
obtained by Newsmax Finance. “More shocking though than the plunge in the euro, and more shocking even that 25 percent of sovereign euro zone bonds now trade in negative territory, is what has happened to euro zone equity valuations.”
The price-to-earnings ratio for euro zone stocks has risen 220 percent in the past six years to 20 times, compared with 18.5 times for U.S. stocks, according to French bank Société Générale. The S&P 500 Stock Index
has tripled since March 2009 as the Fed expanded stimulus
policies to help the economy recover from the deepest slowdown since the Great Depression.
Greenspan, who oversaw the Fed from 1987 to 2006, and his successor Ben S. Bernanke, were criticized for being too lax with monetary policy, resulting in the dot-com and housing bubbles that crashed. Both times, the Fed responding with looser monetary policies intended to lift the economy out of job-killing recessions
“History suggests this will end very badly indeed,” Edwards said. “Just ask Alan!”
Edwards established his reputation as a perma-bear in 1996 with his Ice Age thesis that argued that stocks will collapse and bond values will climb because of deflation, as seen in Japan after its economic bubble burst in the early 1990s.
His biggest worry is that the dollar’s strength will be so harmful to U.S. companies that any beneficial effect from monetary stimulus in Europe and Japan will be offset by sluggish U.S. growth.
“If U.S. companies are clear losers from dollar strength and they respond to the unfolding margin and profit declines by cutbacks in their corporate spend,” Edwards said, “then this period of wild dollar appreciation could be net negative for global growth.”
With European equity markets expected to climb with the ECB’s stimulus program, investors may want to consider dividend stocks, according to Forbes columnist Roger Aitken
, who cites ING Investment Management.
Cyclical stocks are now “particularly attractive” to the point that some are now “priced for a recession,” ING said. As such accelerating global growth should “support corporate margins and dividends” and the declining euro should boost exports and add top-line growth.
Evidence from the U.S., U.K. and Japan reveals that QE leads to cyclicals to “outperforming,” ING told Forbes. Earnings are already improving and they led the earnings recovery in the third quarter of 2014.
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