US Stocks: End Of QE2 Means Lower Stock Prices Ahead

| May 25, 2011

There’s an old saying amongst traders… “Sell in May and go away!”

While this advice isn’t always right, 2011 is the year to take heed of this time tested adage.  As the editor of the currency services here at Hyperion, I see trends developing in the US Dollar that don’t bode well for stocks.

Now, before you dismiss this warning out of hand, you should know one thing.  I’m waist deep in currencies all day, every day.  So I see things from a slightly different vantage point than my colleagues…

And I’m seeing choppy waters ahead for stocks.

If you’re invested in the stock market, it may be time for you to consider moving out of stocks and into cash.

Let me explain…

Now, I’m sure you’re familiar with the Fed’s quantitative easing program, also known as QE2… It’s been responsible for the Fed buying over $600 billion worth of US treasuries from large investment firms, such as Goldman Sachs.

The program was set up in hopes of keeping interest rates low as the economy strengthens.  While we can debate the benefits of QE2, there’s no denying it’s freed up capital at these large investment shops.  And in turn, they’ve been investing their funds into higher risk assets such as stocks.

But here’s the thing… the QE2 program is set to expire in June.  In other words, the source of all the liquidity flowing into the stock market is about to be shut off.  And without these funds, it’s going to be tough for stocks to keep moving higher.

In fact, investors are already preparing for the end of QE2.  You’ve probably noticed that stocks have been moving lower for weeks.  Clearly, investors are taking their stock gains and moving them to safer assets like Treasuries.

But this is just the beginning of a larger downward move.  You see, the Fed has told us they intend to tighten monetary policy in coming months.  We might even see an interest rate hike in late 2011.  The Fed’s tone is much more aggressive than it was earlier this year.

In my opinion, this coming change in monetary policy is another force that’s going to drive money out of stocks.

You see, a rise in interest rates will increase the cost of borrowing for US companies.  Corporate bottom lines will see a negative impact from the increased cost of doing business.  And you know what that means… weaker earnings ahead.

But investors won’t wait around to see this play out.  They’re going to anticipate lower earnings in coming quarters.

And before the actual earnings reports come out, we’ll see stocks sell off.  Remember, today’s stock prices reflect investors’ expectations about the future.  And if investors are expecting higher interest rates and weaker earnings ahead, they’re going to start exiting stocks well before these events happen.

With QE2 coming to an end, all signs point to less liquidity and higher interest rates.  It’s pretty clear where the markets are headed.  I can’t see how they can continue driving higher for any significant gains.

So, what can you do to protect your hard earned stock market gains?

The best thing to do is tighten up trailing stops on your open positions.  The last thing you want to do is sit by and watch your hard earned profits disappear.

The other thing you can do is get out of your economically sensitive stocks now.  Those stocks do well when interest rates are low, but they tend to suffer when rates go higher.

We’ve got some choppy waters ahead.  Take action now to protect your portfolio…

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Category: Stocks

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