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This Is How The Stock Market Will Hurt Investors In 2022


The stock market has been very generous in the past 13 years. The S&P 500 is six times higher than the financial crisis low of 2009 and every decline since proved to be an opportunity to buy. But the market generosity may have reached its limits. Historically speaking, U.S. stocks as an asset class are as expensive as they have ever been. While this could persist, the chances of a double-digit return this year are slim.

Adjusted for inflation, the price of the S&P 500 index is at the top of a long-term band, and in fact higher than during the “irrational exuberance” days of the late 1990s’ dot-com boom, which was followed by a 2-year dragged-out 50% slump from its peak. The inflation-adjusted total return of S&P 500 stocks (i.e. when dividends are included) is also at a historical peak.

To be clear from the start, the charts in this article forecast nothing at all. It would be wrong to conclude that a major reversal is around the corner just from these charts, and long-timers like me have learned the hard way that “the market can stay irrational far longer than you can remain solvent.” That is to say, just because the market is historically high today won’t prevent it to become even higher in the months ahead.

What the charts clearly show, however, is that stocks are very expensive. And if one were to look for a reason why the next likely direction is not upwards, it would be that the regime that supported increasingly expensive stocks is no longer in place.

For the better part of the last 12 years monetary policy was loose, as the Federal Reserve kept the economy awash with money and interest rates low. I will not discuss the merits or mistakes of such policy here, but I will note that one consequence of this policy was to make the price of financial assets soar.

Interest rates around historical lows were a boon for equities, simply because when stocks are priced according to the present value of future dividends, lower rates make those future dividends more valuable today.  But even stocks that don’t pay dividends benefited from those loose policies.

Fiscal policy joined monetary policy in stimulating not just the economy but financial markets. This probably started with the massive corporate tax cut of 2017 that put a lot of money into public companies’ pockets, a significant portion of which was used to buy back stocks and increase dividends. This was followed by a mountain of stimulus money intended to shore up a pandemic-stricken economy, but…


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