Dear Mr. Berko: What’s your opinion of the current stock market? Why has the market collapsed so much the past month? Some investors blame President Donald Trump’s appointment of hawkish Jay Powell, Marvin Goodfriend and Loretta Mester to guide the Federal Reserve. Others say that 2018 will be good for the economy. Others predict a slight decline in corporate revenues and earnings and a runaway deficit. Others say it’s a normal reaction to a market that’s run up too fast. This is very scary. Will stocks recover from this ghastly crash? The other question on most minds is: How do we protect what we have? Can you make any sense of what’s happened and what will happen?
— M.T., Bettendorf, Iowa
Dear M.T.: Janet Yellen was a swell Federal Reserve chair, and many investors who were comfortable with her policies are uncomfortable with what they know about Powell, Goodfriend and Mester. But they’re more uncomfortable with what they don’t know about these three musketeers. Each of them is a strong advocate of rising interest rates, and they probably will be more aggressive than Yellen in raising rates. The appointment of these three to super-powerful and sensitive positions at the Fed concerns most investors and me, too. It’s kind of like appointing a new coach and staff to run a professional football team when new hires were not necessary. Jumpin’ Jack Flash, mama mia, Jiminy Christmas, oy vey and blimey. My friend Knobby Walsh always reminded me, “If something ain’t broke, don’t fix it!” The Fed, running smoothly under Yellen, wasn’t broken, so these appointments take the cupcake. Perhaps this is why cryptocurrencies are becoming popular.
This year will be a good year for the economy and for most Americans. During the fourth quarter of 2017, the Fortune 500 companies reported a year-over-year average increase in revenues of 8.2 percent and a 14.4 percent average increase in earnings. The Fed said inflation ran at 2.1 percent for 2017 and to expect inflation at 2.5 percent in 2018. And economists are suggesting good metrics this year. In a recent survey by The Wall Street Journal, economists predicted that the United States’ gross domestic product will grow by 2.8 percent this year, versus 2.5 percent last year. They also projected that unemployment will fall below 4 percent this year.
Yes, interest rates will rise. Historically, yields on 10-year Treasury notes have been roughly the equivalent of the growth in GDP plus the rate of inflation. Historical precedent suggests that the 10-year Treasury rate last year should have been 4.6 percent rather than 2.8 percent. And historical patterns suggest that this year’s 10-year Treasury notes should trade at 5.3 percent. Resultantly, the bond market may be roiling. Holders of U.S. Treasurys, which currently yield 2.8 percent, are reluctant to hold them because rising rates could cause their principal to fall by 30 to 35 percent. Certainly, investors would rather hold hot coals in their hands than Treasurys. It’s a definite maybe that rates will be higher in 2018, and that makes the investors nervous as Porky Pig in a bacon factory.
