Enjoy the Dow 25,000 and Trump stock market rally while it lasts

Enjoy the Dow 25,000 and Trump stock market rally while it lasts
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The Dow Jones Industrial Average crossed the 25,000 barrier at the open of stock market trading yesterday. The index has advanced a staggering 285 percent from the lows reached at the nadir of the financial crisis in March 2009. The venerable index has risen approximately 7,000 points — an amazing 36 percent — since President TrumpDonald John TrumpJimmy Carter: 'I hope there's an age limit' on presidency White House fires DHS general counsel: report Trump to cap California trip with visit to the border MORE’s unexpected election victory in November 2016.

Not surprisingly, Trump is taking credit for this remarkable run. Of course, he has also recently taken credit for commercial aviation safety, breaking the glass ceiling for women in the construction industry, and inventing the phrase “priming the pump.” His affinity for the stock market is an about face, as in October 2015, he told The Hill that the economic recovery was a mirage and that savings would get wiped out.

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Trump even suggested a conspiracy between Federal Reserve Chairman Janet Yellen and President Obama to keep interest rates low and prop up Obama’s presidency. In April 2016, Trump told the Washington Post that stocks were overvalued and that we were sitting on a “financial bubble.” On Thursday, he tweeted, “Dow just crashes through 25,000” and later commented to reporters, “I guess our new number is 30,000.”

To Trump’s credit, tax reform, deregulation and the business-friendly government in Washington have certainly contributed to the meteoric rise in the stock market. The cuts in the corporate tax rates are leading analysts to raise earnings forecasts. We will likely see an increase in both capital investment and stock buybacks. The recent events inside the beltway have contributed to the boom in equity prices and have unleashed some animal spirits as investors feel more confident.

While the business-friendly government has been the catalyst for the recent rise in stock prices, the sustained low interest rate environment is the base upon which this rally was built. Perhaps the longest bull market in financial history has been that in bonds, given the secular decline in interest rates since 1981.

None other than Berkshire Hathaway Chairman Warren Buffett once compared interest rates in economics to gravity in physics. Buffett stated that interest rates “act on financial valuations the way gravity acts on matter” and that “the higher the rate, the greater the downward pull. That’s because the rates of return that investors need from any kind of investment are directly tied to the risk-free rate that they can earn from government securities.”

The overwhelming sentiment in the financial markets is that interest rates will rise substantially in 2018. Expectations are that the Federal Reserve, under Jerome Powell, will raise rates a minimum of three times in 2018 in increments of 25 basis points. However, even if that comes to fruition, market interest rates will still be markedly lower than long term averages. The current 10-year Treasury yield is at a paltry 2.45 percent. If rates were to increase by 100 basis points to 3.45 percent, rates would still be significantly lower than long-term average of 4.57 percent.

Stocks and bonds compete for investor capital. When rates are extremely low and the economic outlook is strong, robust growth in stock prices is expected. Given rising interest rates over the next several years, investors will likely not experience the levels of returns earned in the equity markets in 2017. But that doesn’t mean that one should sit on the sidelines and wait for a market correction. Long-term investors should practice what Berkshire Hathaway Vice Chairman Charles Munger referred to as “sit on your a-- investing.” By that, he means buying and holding for over the long run. Too many investors snatch defeat from the jaws of victory by trying to time the markets.

Robert R. Johnson, PhD, CFA, is president and chief executive officer of the American College of Financial Services. He is co-author of Strategic Value Investing, Invest with the Fed and Investment Banking for Dummies.