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Stepan Lavrouk
Stepan Lavrouk
Articles (626) 

Is the Bull Market Running Out of Steam?

What could explain the recent market top?

July 29, 2020 | About:

There are signs that the post-lockdown stock market rally may be running out of steam, with major equity indexes like the S&P 500 failing to breach the highs set last week. To be sure, this might prove to be a temporary halt to this new bull market; however, there are a few reasons to be skeptical of future gains.

For one thing, the ongoing political battle between the Trump administration and Democrats over the reopening of businesses and schools may be introducing doubts for investors hopeful of a V-shaped recovery in the real economy. Furthermore, the commanding polling lead that former Vice President Joe Biden currently has over President Trump, combined with strong polling numbers for Congressional Democrats, may be spooking some investors who are wary of the less business-friendly policies that a Biden administration might enact. Betting markets (a pretty reliable barometer of public opinion) are currently giving Biden a slight edge over Trump.

Valuations over politics?

Of course, the real reason for the bull market running out of steam might have nothing to do with politics whatsoever. The simple truth is that valuations have gotten too high. This idea was addressed in a recent equity research note from Morgan Stanley (NYSE:MS), in which Chief Investment Officer Mike Wilson wrote:

“From my vantage point, such valuations have reached extreme levels that are almost impossible to justify using any reasonable assumption on the growth these companies can actually deliver. Part of the problem is that many of the most expensive stocks are now very large in size, and the law of large numbers alone will preclude such aggressive growth targets from being achieved. Secondly, the perceived resilience of certain business models during this pandemic may be challenged in the second half of the year, when it becomes clear that such businesses were simply beneficiaries of a pull forward of demand during the pandemic, as people worked from home and stayed at home.”

Many stocks, particularly those in the technology sector, were major beneficiaries of the lockdowns - for instance, video communication company Zoom (NASDAQ:ZM) has seen its stock skyrocket by over 230% since January. While this environment has undoubtedly been a favorable one for businesses that enable working from home, at a certain point even the best companies can become overvalued. For this reason, the note theorizes that many of these technology stocks might come down to earth over the next several weeks as investors readjust their lofty expectations. Ultimately, this would be a positive development for prudent capital allocators who want to invest in the longer term.

Disclosure: The author owns no stocks mentioned.

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About the author:

Stepan Lavrouk
Stepan Lavrouk is a financial writer with a background in equity research and macro trading. Specific investing interests include energy, fundamental geoeconomic analysis and biotechnology. He holds a bachelor of science degree from Trinity College Dublin.

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