2016: The year of living dangerously

A trader works on the floor of the New York Stock Exchange.
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A trader works on the floor of the New York Stock Exchange.

2016 may be the year of living dangerously, at least as far as investors are concerned.

As we close out 2015, a host of potential negatives are making themselves known. And while the stock market often climbs "a wall of worry," that adage refers to an environment in which the worries are phantom issues, not serious threats.

Take for instance the market maxims, "Don't fight the Fed" and "Don't fight the tape." Those are not insignificant concerns at this juncture in the recover and bull market. Ignoring these tried and true warnings is done so only at one's peril.

If we assume that economists are correct (though they often aren't) and the Federal Reserve raises rates four times next year, in addition to an unexpected rate hike this week, monetary policy will be less friendly for stocks than at any time since 2007.

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The implications have already begun to play out in the financial markets, whether through a mini-crash in high-yield debt, or in the subsequent failure of a prominent high-yield mutual fund.

Or, in emerging market debt, equity and currency markets, where a strengthening dollar is wreaking havoc … money is fleeing those vulnerable sectors and looking for safer shores on which to land, primarily in the U.S.

Global manufacturing is in recession, including here in the U.S., where that strengthening U.S. dollar has made our exports more expensive overseas and multi-national profits less plentiful than anytime since the recovery began in mid-2009.

Additionally, the market's technical condition has deteriorated significantly. The Advance/Decline Line, which measures the number of stocks going up versus the number of stocks going down on a daily basis, has turned negative, even as stocks rebounded in recent weeks. Market technicians call that a "negative divergence," which augurs poorly for the stock market's on-going performance.

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The number of new 52-week lows has exploded again, as the number of new 52-week highs has dwindled to a handful.

The Dow Transportation Average, often a leading indicator of demand for delivered products, is down over 17%, year-to-date, diverging sharply from the path of the Dow Industrials, which are down just over 2%. The Transports, which typically benefit from falling fuel costs, are crashing with the price of crude. Such a pronounced divergence is often associated with a "Dow Theory Sell Signal," the oldest form of technical analysis that suggests that when industrial production and final demand are out of balance, the economy, and market, are headed for trouble.

The commodity crash, about which there has been much discussion, is both the cause and effect of a weakening global economy. Oil, at just under $36 per barrel, has plunged to the lowest level since February of 2009, at the depths of the Great Recession. Other industrial commodities, like Iron Ore, have fallen to historic lows, again, consistent with a weak global economy, especially in China, Japan, Russia, Brazil, Venezuela, Australia, Canada and France. Bankruptcies, restructurings and debt defaults are growing by the day in energy and resource-related industries, while countries that depend on resource revenues are struggling to make ends meet.

Geo-political risks are rising as terror concerns escalate, both at home and abroad. The U.S., Russia, France, the U.K., Iran, and, possibly, China are all launching military campaigns in an incredibly small theater which includes parts of Syria and Iraq. The proximity of superpowers with competing agendas raises the risk of miscalculation, misunderstanding and missed targets, factors that could lead to a broader and deeper conflict.

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Then there are the anecdotal signs associated with major market tops:

  • Global Merger and Acquisition activity reached a record high in 2015, topping $4 trillion.
  • The IPO market both peaked and sputtered this year, with some high-profile issues failing to hold their offering prices.
  • Residential real estate prices, and rents, in major cities hit new all-time highs, even as supply increases rapidly. (Indeed, 360 square foot micro-apartments in Manhattan, eerily similar to storage space-sized apartments in Tokyo in the late 1980s, are renting for between $2,500 and $3,000 per month!)
  • Prices for fine art are flirting with record highs.

Whether this phase of the recovery and bull market ends with a bang, or a whimper, only time will tell. But as we add the uncertainty associated with what arguably may be the most contentious presidential election cycle in modern memory, rising regulatory and legislative activism, it seems the risks outweigh the rewards in the world's equity markets. Safety may be the operative word in 2016 … a year in which we all have to live a little more dangerously.