The stock market opens, fresh new all-time highs record, and the beat goes on. The upward pricing pressure on US equities has been relentless all year. And whether you have agreed with it or not, the points have piled on, and the performance is real. So just what has been behind all this strength?
Clearly, there are many factors contributing to the stock market rally, but I think one macro global factor may be flying under the radar of late: Europe. Below is a chart of the Dow Jones in Euros. And now that I have your attention…
Dow Jones in Euros – Historical Chart
Back in May, I laid out 3 reasons for the recent strength in equities. I’ll do my best to summarize and update. Clearly, sentiment has remained polarized, ping ponging between anger and euphoria. This dichotomy is largely due to the fact that many investors have had trouble separating the domestic economy from the stock market (and their opinions from their money). And, as contrarian analysis goes, markets climb the wall of worry, correcting when the least amount of people expect it. So deeper corrections tend to occur when a majority of market participants are bought in (with money and psychology). But, those are somewhat known investment truisms and add little insight or new learning.
The other point that I made in that piece was that capital was flowing into our markets. And this is where Europe, and the chart of the Dow Jones in Euros, come into play. Although capital may be returning from emerging markets, it is also coming in from developed markets. The sovereign debt crisis has taken its toll on Europe, shaking confidence in both the political and financial system. This has added pressure on capital flows into US equities. But will it continue? The European Central Bank is navigating through rough waters, and further moves perceived to be unilateral (by Germany) or similar to the Cyprus depositor tax news could push mistrust to new levels. Investors will also want to keep an eye on the German elections this fall… and subsequent movements in the Euro.
Lastly, lets return to the historical chart of the Dow Jones in Euros. It is worth noting that the trend is higher. And should the ratio break out to new highs, it would likely confirm accelerating capital flows, attracting additional Euro-based investors.
Thanks for reading.
Twitter: @andrewnyquist and @seeitmarket
No position in any of the mentioned securities at the time of publication.
