Theoretically, the prospect for investing in riskier assets should be dim. Consider the weakness in real estate – a major component of the U.S. economy. Mortgage application volume recently fell to its lowest level since 1995. Meanwhile, U.S. stocks are expensive on nearly all of the traditional measures. Cyclically-adjusted P/E ratios suggest that stocks may be overvalued by as much as 40%-50%.
The global economic picture is equally disconcerting. Both Europe to Japan require emergency-level stimulus in the form of electronic money creation. Moreover, the deceleration in gross world output (GWP) is largely to blame for a 25% oil price smack-down.
Not surprisingly, most analysts believe the decline in oil is a win for consumers, businesses, the U.S. stock market as well as the U.S. economy. The spin? Everyone benefits from lower energy costs. What many folks may be missing, however, is that oil price deflation can undermine confidence in global demand. It is not too dissimilar from making a singular claim that falling home prices are a positive for home-buyers without looking at the recessionary nature of housing busts.
The question that many might wish to address is, “Will the oil market stabilize in and around $80 per barrel, or will it continue to tank the way it did in 2008?” Some of the challenges that occurred in 2008 are happening today, including real estate uncertainty and the deceleration in gross world output.
Of course, there are key differences between year-end 2014 and mid-2008. Central banks around the world have since added trillions to their balance sheets, pushing bond yields to remarkable lows. The U.S. 10-year Treasury yielded 4.3% in mid-2008, whereas it yields closer to 2.3% today. The low yield increases the attractiveness of 2%-plus dividend yielding stocks, particularly for those with 10-year time horizons. In a similar vein, one recalls “negative-am” and “no-doc” loans fueling the previous decade’s housing bubble and subsequent credit crunch. Today’s housing slowdown is more a function of relatively responsible lending requirements as well as buyer skittishness.