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Beware of three hidden traps in the economy

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Given the momentum the market has built up over the past few months, stocks will likely continue to advance a while longer—at least until we move into the seasonally weak May to October period. As prices rise, however, so do the odds of a sharp, sudden reversal.

Here are three potential pitfalls today’s ebullient investors are forgetting:

1) Monetary shenanigans. By forcing interest rates down (in some cases, to near zero) and purchasing trillions of dollars of dodgy debt, the Federal Reserve and other central banks have artificially inflated prices of a wide variety of assets, including stocks. Whenever this magical “stimulus” is withdrawn— even briefly, as in mid-2010 and mid-2011—the market recoils in terror, spooked by the prospect of an economic slowdown and lower company profits. It will happen again!

2) Demographic drain. Here’s a number that befuddles the mainstream media. Mutual funds that invest in U.S. stocks have suffered 10 straight months of net outflows, with $5.5 billion pouring out the door in January and February 2012 alone. In a rising market such as we’ve had year to date, investors usually buy stock funds. Why are they still dumping?

Because many of them have to. Roughly 10,000 Baby Boomers are turning 65 every day this year, and (as a group) they’re low on retirement savings. So they’re liquidating equity funds to pay living expenses—a trend that will persist, and accelerate, well into the middle of this decade. In other words, the Boomer undertow is putting a drag on the market even as Bernanke and other policymakers struggle to prop share prices up.

3) Europe, again. I wish I could say the Greek default was the end of the story. It almost certainly isn’t, though. Portuguese five-year government bonds now yield 16%, up from a mere 2.7% as recently December 2009. Such exorbitant borrowing costs imply that Spain’s next-door neighbor is fast running out of options, and that
Portugal will soon write a brand-new chapter of the European sovereign-debt crisis. France may not
be far behind if socialist wonk François Hollande, leading in the polls, wins the presidential election
run-off on May 6.

Looks like another fun-filled summer ahead!

Article printed from InvestorPlace Media,

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