US stocks had a great start to the trading year. Can the rally continue?
The US stock market has rebounded sharply from the COVID-19 pandemic. Fueled by a lax monetary and fiscal policy, the stock market indices recovered from March 2020 lows and never looked back.
The latest push higher was triggered by the announcement last November that COVID-19 vaccines are efficient against the virus. The announcement triggered a massive rally toward the end of 2019 – a rally that continued into the new year.
2021 is on track to become one of the best years in terms of the US stock market performance. An analysis of the cumulative return by calendar year in the last century (i.e., since 1927) shows 2021 delivering staggering results in the first quarter of the year.
While the trading year is still relatively young, corporate America delivered impressive earnings for the first quarter, and fiscal and monetary stimulus remains in place. Hence, the road for further performance is open, at least judging by how the fundamentals look like.
What Drives Equities Higher?
Monetary and fiscal policy most certainly play their part. Rarely in the past we have seen the two working hand in hand to such an extent. Moreover, the speed with which the new US administration has acted in delivering the stimulus has positively surprised markets.
As a result, the US economy is now facing a labour shortage, and many states are contemplating relaxing their regulations so that businesses can fill their openings. Retail sales are booming, the housing market is booming, and so is inflation.
Inflation is the main concern here. While, by definition, inflation should translate into a weaker currency, thus higher stock market prices, history tells us differently.
The 1970s were known as a period with high inflation, and that period triggered a massive bearish equity market. Hence, inflation may act as a double sword – it may push equities even higher, but it may also hurt them in the months ahead.
One thing is for sure – the Fed did what needed to be done and still delivers massive monetary easing that supports the stock market. The more the indices rise, the bigger the absolute volatility will be, so the road ahead is not without risks. However, if we check the historical data, 2021 has big chances to be a year that delivers better-than-average returns.