2015: An end to stocks' easy ride?
Things have been easy for the stock market lately. Since late 2012, gains have been fueled by the retreat of potentially negative catalysts -- such as a breakup of the eurozone or a U.S. debt default -- and the copious application of cheap money stimulus from the world's major central banks.
The Dow Jones industrial average is on track for a 9 percent gain for 2014, building on 2013's 22.5 percent rise. Stocks haven't seen a serious market correction since late 2011.
But 2015 is shaping up to be a much more treacherous environment as a number of issues come to a head. While this doesn't necessarily mean stocks can't keep climbing, it does mean investors -- for the first time in years -- might feel some uncomfortable price volatility.
Here's the laundry list of issues stocks face in the New Year:
Politics
Partisan gamesmanship will return to Washington in January as Republicans take control of the Senate and tighten their grip on the House of Representatives as the 114th Congress begins its work. Top of the list will be the GOP's response to President Barack Obama's executive action on immigration, with the first battleground being the funding for the Department of Homeland Security.
The bickering could very well continue into March, when the U.S. Treasury's debt ceiling comes back into play. It's worth remembering that the most severe pullback of the bull market to date was a direct result of the GOP's takeover of the House in the 2010 midterm elections, which resulted in the budget battles of the summer of 2011 and the downgrade of America's credit rating by Standard & Poor's that August.
Rate hikes
As things stand now, sometime in the middle of 2015 the Federal Reserve will raise interest rates for the first time since 2006 -- ending what will be an eight-year-long run of rates near zero percent. This is in response to the impressive job gains and economic growth we've seen recently.
And it comes on the heels of October's end to the latest bond-buying stimulus program, which the Fed started in 2012.
No one really knows what will happen when the central bank starts tightening policy. The Fed's response to the 2008 financial crisis and the recession that resulted, the worst downturn since the Great Depression, has been creative and aggressive. And it was also unprecedented, taking the Fed's monetary base from $800 billion to near $4 trillion now.
Moreover, the Fed's actions capped a 30-year bull market for bonds. An entire generation of investors and traders have come of age in an environment where rates always seemed to decline and bond prices always seemed to rise. The combination of pricier credit and bond price declines (as rates rise) could be unsettling.
Overseas issues
The main event in the months to come will be what happens in Europe, as the eurozone economies are slowing and political turbulence returns to Athens. The European Central Bank was able to tamp down eurozone borrowing costs and restore confidence in 2012, thanks to a vague commitment to buy government bonds of countries like Spain and Italy should the need materialize. Other efforts included three-year loans to banks and targeted bond purchases.
But the structural problems of overindebtedness, lost economic competitiveness and the damage a strong euro has caused countries like Greece and Spain were never addressed. Should the anti-bailout Syriza party win coming elections in Greece and should the ECB fail to deliver the government bond-buying stimulus the market expects, confidence could quickly unravel.
In Asia, issues include a slowdown in China as that country continues to deal with a credit bubble and overinvestment in areas like steelmaking and coal (which fueled bond market concerns in early 2014) as well as Japan's economic stall in the wake of a recent sales tax hike.
Commodities
While stocks have punched to new record highs in December, commodity prices have been hammered largely because of the halving of energy prices over the past six months. As a result, the prices of stocks and commodities -- which normally tend to move in unison -- have disconnected to an extent not seen since 1998. That year featured a large decline in oil prices and a slide in corporate profits (as energy companies were hit).
While many have dismissed the drop in oil prices as a glut of supply, given OPEC's recent decision to maintain production levels, a slowdown in global economic growth has been played a larger role as demand for energy has diminished. This suggests that commodity prices are warning of a slowdown that stocks seem to be ignoring.
The good news
While stocks could face a treacherous environment, things are looking good for regular Americans. The job market's strength means we're on the cusp of a meaningful rise in wages, something this recovery has sorely lacked. The drop in energy prices is providing relief at the gas pump and lowering the cost of living, providing a boost to inflation-adjusted incomes. And the housing market seems to be on the move again, with home price gains continuing at the end of the year.
As the sun sets on 2014, investors should prepare for an exciting, but potentially riskier, market environment in 2015, while everyone else can look forward to cheaper road trips and fatter wallets. Considering the disconnect between capital market gains and the welfare of working-class folks over the last five years, that's probably a fair trade-off.
