Can the U.S. stock market continue to make all-time highs? Yes. Here's why.
We find two factors to be most consequential for forecasting future financial market returns: economic growth and inflation. We track both on a year-over-year rate of change basis to better understand the big picture then ask the fundamental question: Are growth and inflation heating up or cooling down?
From there, we get four possible outcomes, each of which is assigned a “quadrant” in our Growth, Inflation, Policy (GIP) model and the typical government response as a result (neutral, hawkish, in-a-box or dovish): Growth accelerating, Inflation slowing (QUAD 1); Growth accelerating, Inflation accelerating (QUAD 2); Growth slowing, Inflation accelerating (QUAD 3); Growth slowing, Inflation slowing (QUAD 4).
After building this base of knowledge, we can now select what we like and don’t like based on our historical back-testing of the different asset classes that perform best in each of the four quadrants. Our GIP model currently suggests that the U.S. economy is currently in Quad 1 for the second quarter of 2017 and should remain there through the first quarter of 2018. This has historically been the best environment for domestic equities.
As you can see in the chart below, our GDP estimates are well above consensus, particularly as we head into early 2018. As Hedgeye CEO Keith McCullough writes in today's Early Look, "At +2.6% q/q (+2.1% year-over-year), US GDP has accelerated from the Q2 2016 mid-cycle low of +1.2%. Mr. Market has been discounting that all year long."
Remember, we made the call on U.S. growth slowing and even said the stock market is going to crash. It did. From the June 2015 peak to the February 2016 lows the Russell 2000 crashed. Over that period, the small cap index fell more than -24%.
Now U.S. growth is accelerating.
U.S. Growth Accelerating: Investing Implications
We think it remains probable that U.S. growth accelerates and stocks continue to hit all-time highs. But if you want some serious investing ideas based on our market calls we're launching ETF Pro today, our monthly newsletter of tactical macro ETF exposures. Click here to learn more.
