Stocks rallied nearly 30% higher in 2019, as measured by the S&P 500 index. While the magnitude of that gain may have been surprising, a rally of some sort shouldn't have been -- especially after the rare non-recession-driven 20% plunge the market took in the fourth quarter of 2018.
The past two years both exemplified the point that predicting the short-term future of stock prices is incredibly difficult to get right, and nearly impossible to manage consistently. Nevertheless, history can be a useful guide, and some pending news headlines could have some short-term implications on the stock market in the year ahead.
While I'm fully prepared to eat crow on any of prognostications, here are my five bold predictions for the stock market in 2020 -- and what to do about them.
1. Expect at least one stock market decline of 10% or more
2018 was the first calendar year in a decade that the U.S. stock market lost ground, and investors entered 2019 with plenty of worries. The Federal Reserve was insistent that benchmark interest rates needed to be raised from their historic lows, and there were signs that an economic contraction was coming. (Take your pick of potential triggers, but the U.S.-China trade war was the favorite.)
Instead, that impending downturn failed to arrive on schedule, and the market ran higher without posting any declines of more than 10% from its peaks all year.
I predict that will change in 2020, but not because I fear a recession is coming. Some investors argue that the current economic expansion that started in 2009 is getting long in the tooth, but a historical sample size of less than 50 U.S. recession and expansion cycles is no reason to say 10 years is too long. However, a far more reliable statistic is that U.S. stocks fall at least 10% from all-time highs once every 18 to 24 months.
Not that it needs to happen to fulfill some sort of historically established precedent, but stock dips following runs higher are simply a reflection of the role human emotion plays in the market. Warren Buffett's sage advice to "be fearful when others are greedy, and greedy when others are fearful" feels particularly apt as we head into the new year. There's no telling when the tide will turn, but it will eventually. So don't fret, keep some dry powder (i.e., cash) handy and be ready to apply the second half of that adage when the time is right.
2. The Fed will need to cut interest rates again
One of the catalysts for the late 2018 stock market meltdown was that the Federal Open Market Committee had raised the lower limit of the short-term fed funds rate by a total of 1% during the year. With the economy slowing down for other reasons, the added drag put investors into a tizzy. The Fed backtracked with three 25-basis-point cuts in 2019 and has recently said it expects to hold steady at the current 1.75% rate through 2020.
Even with recent signs that economic expansion is picking up again (businesses are still hiring, and the manufacturing sector recently rebounded), investors seem to think there's still a decent chance that anemic U.S. growth will eventually need some support. After all, higher Fed interest rates are traditionally used to moderate an over-heating economy -- something that isn't occurring right now. According to data compiled by the Federal Reserve Bank of St. Louis, inflation was at 1.5% through September (below the Fed's 2% target) and the consensus expectation is that U.S. GDP growth will be 2% or less in 2020.
Therefore, I expect to see at least one interest rate cut in 2020 as the Fed tries to sustain the current economic expansion. Financial analysts agree that one may be in the cards as well, with CME Group's (NASDAQ:CME) fed funds rate tracker currently sticking a 35% probability on rates being 1.25% to 1.5% (one rate cut) and a 10% probability on rates being 1% to 1.25% (two rate cuts) next December. If the market doesn't get what it wants -- or what it thinks it needs -- that could be a catalyst for a 10% or more stock market correction.
3. One trade dispute will continue, but one new deal will emerge
The "phase one trade deal" between the U.S. and China has caused many investors to take a big sigh of relief, but it's more of a truce and rollback on some tariffs than anything else. Negotiations between the world's two largest economies will continue in 2020, bringing all of the uncertainty and worry-making we've grown accustomed to along with them.
However, the sun will finally set on one recurring headline-making source of uncertainty: Brexit. After years of political drama, the U.K. is all set to leave the European Union on Jan. 31, to be followed by an 11-month transition period ending on Dec. 31, 2020. During that time, the U.K. will begin negotiating new trade agreements -- including one that redefines its relationship with the EU itself. An expanded agreement with the U.S. is also being sought, with hopes that trade between the largest and fifth-largest economies in the world can be increased from the roughly $260 billion currently taking place annually.
Those bilateral negotiations are expected to cover such things as telecom equipment, pharmaceutical products, and wine and distilled spirits. How any resulting agreement might affect the two nation's economies, though, is still unclear.
4. The stock market will fret over the 2020 election, but not for long
Another catalyst for some market turbulence will likely be the U.S. presidential election. Fear of the unknown creates turbulence for stocks, and the back-and-forth between candidates for the White House and what their proposed policies will mean for business could be the ultimate reason stocks notch a notable decline. Such volatility manifested in 2016, and again in the lead up to the 2018 midterm elections.
Not to worry, though. Historically, once the stock market figures out who's in control and what to expect, business adapts and gets back to ... well, business. Remember, as a general rule, two out of three calendar years end positive for stocks, so the odds are in favor of more gains in 2020, as they are in most years. While policy debates are polarizing as ever these days, history has proven that mixing politics with long-term investment decisions tends to be a losing strategy.
5. Apple and Microsoft will climb closer to $2 trillion market caps
History has also demonstrated that winning stocks tend to keep winning. It's a difficult task to unseat industry leaders, and companies' winning streaks often last far longer than onlookers expect. Thus, with software and hardware-based technology still leading the economy forward, I predict the decade-long winning streak for tech stocks will continue, with trillion-dollar market cap companies Apple (NASDAQ:AAPL) and Microsoft (NASDAQ:MSFT) leading the way.
The fact is, mobile internet-connected devices and cloud computing are still fast-growing segments of the technology sector, and those giants are among the most influential guiding hands for their movements. Apple and Microsoft have momentum at their back, and their large ecosystems mean they can continue finding ways to monetize them -- Apple via its services segment propped up by hundreds of millions of Apple device users around the globe, and Microsoft with a powerhouse cloud computing unit that's supporting double-digit revenue growth. Billions of dollars worth of share repurchases each quarter from both companies won't hurt their stock prices either.
While the two tech titans still have a ways to go to catch up to recent IPO Saudi Aramco, which on Christmas week was trading at a market cap just shy of $1.9 trillion, I think Apple and Microsoft will both narrow the gap. Modest 10% gains for the two stocks in 2020 would value them at over $1.4 and $1.3 trillion, respectively. I also think it isn't outlandish to expect that in the coming year, Amazon (NASDAQ:AMZN) will rejoin the trillion-dollar club, and Google parent Alphabet (NASDAQ:GOOGL)(NASDAQ:GOOG) will make its first appearance above that line -- even with the extra regulatory scrutiny taking place at the moment -- as their market caps currently sit at $940 billion and $927 billion, respectively, with just a few days left to go in 2019.
Take it with a grain of salt
I feel like these outcomes are in the cards for 2020, making for a volatile but ultimately profitable year. However, the stock market is exceptionally good at making even the best would-be foretellers of the future into fools (as opposed to Fools, as in Fool.com). While we all try to plan for what the future holds, being flexible is of utmost importance.
Thus, the key point I hope you take away from this piece is this: While investing for the long term, expect that there will be short-term hiccups -- blamed on everything from trade wars, politics, to interest rates -- that you can use to your advantage. When times are going well, sell off underperforming positions; and when the investing environment heads south for a while, add to your long-term winners. Whatever 2020 may bring, that remains my plan.