Defy gravity? What could US stocks bring to earth?

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By Lewis Krauskopf

NEW YORK (Reuters) – The relentless surge in the US stock market has created a thrill on Wall Street that is nearing the end of the rally. Geopolitical risks – such as the recent escalation of tensions between the United States and Iran – are just one of the issues on the list in 2020.

<p class = "canvas-atom canvas-text Mb (1.0em) Mb (0) – sm Mt (0.8em) – sm" type = "text" content = "Stocks ended 2019 with their best year since 2013, with the benchmark S&P 500 <.SPX> rising nearly 29%. That's put the S&P index at just under the 3,260 level that a Reuters poll forecast the index would achieve at the end of 2020. "data-reactid =" 33 "> The shares ended 2019 with their best year since 2013, with the Benchmark S & P 500 <.SPX> Rising almost 29%. The S&P index is thus just below the 3,260 level that a Reuters survey would forecast at the end of 2020.

Some investors are becoming increasingly nervous that the "merging" of stocks by the end of the year will lead to a terrifying breakdown.

The following are some of the risks Wall Street is concerned with starting the 2020 strategy:

(GRAPHIC: S & P 500 compared to other assets – https://fingfx.thomsonreuters.com/gfx/mkt/13/516/516/Pasted%20Image.jpg)

PROMISED PROFIT REBOUND FLAILS

The stock market's impressive gains for 2019 came despite a weak year for corporate earnings growth, but performance could suffer if earnings lag behind in 2020.

The fourth quarter reporting season begins in the coming days and results are expected to be weak. According to Refinitiv, the S&P 500's result fell 0.3%.

However, analysts expect S&P 500 profits to increase 9.7% in 2020. There are some skeptics, notes Chuck Carlson, CEO of Horizon Investment Services in Hammond, Indiana, who said that the bears "still think negatively that corporate earnings are not going to be so great (2020) because the economy is likely to be somewhat weaker." becomes. "

In fact, Friday's data showed that US manufacturing contracted the most in December for more than a decade.

(Graphic: S&P 500 earnings per quarter since 2015 – https://fingfx.thomsonreuters.com/gfx/editorcharts/USA-RESULTS-OUTLOOK/0H001QXLS9MC/eikon.png)

US CHINA RELATIONS SOUR

A first trade agreement between the United States and China caused stocks to rebound at the end of the year, but any obstacle in the phase 1 agreement between the world's two largest economies could upset the markets.

"The rivalry between the United States and China has not disappeared," said Mark Haefele, chief investment officer at UBS Global Wealth Management.

"Investors will be vigilant if there are signs of a recurrence of tension or if one side is dissatisfied with the implementation of the Phase 1 agreement," said Haefele.

LESS FED SUPPORT

Some point to the Federal Reserve as a trigger.

"When the Fed puts money in, the funds tend to flow into the best-yielding market," said Bianco Research analysts in a recent release. "The big question is what happens if the Fed ends T-bill purchases and repo support," said Bianco.

In October, the US Federal Reserve announced that it would buy around $ 60 billion in treasury bills each month to secure "sufficient reserves" in the banking system. This program would continue until at least the second quarter. The Fed would continue to support short-term loan markets by offering daily operations in the repurchase or repurchase market.

"Be careful of a correction in the first half of the year as the Fed's balance sheet shrinks," said Andrew Brenner, head of International Fixed Income at NatAlliance Securities, in a note.

(GRAPHIC: Repo and balance sheet expansion – https://fingfx.thomsonreuters.com/gfx/mkt/13/266/266/Pasted%20Image.jpg)

VOLATILE US POLITICAL LANDSCAPE

Markets will increasingly focus on the US presidential race as the Democratic primary starts next month and the November general election approaches.

Several prominent investors have warned of a sharp drop in stocks if a progressive candidate secures the Democratic nomination and defeats President Donald Trump. It is particularly worrying whether the Democrats are sweeping the presidency and both chambers of Congress, paving the way for a comprehensive policy review.

Investors currently see low market risk from Trump's impeachment. That could change if US senators in Trump's own republican party go against him in significant numbers in the Senate process.

OVEROPTIMISTIC INVESTORS

With the market rising in 2019, investors' optimistic stance on equities was a potential sign of caution despite rising valuations.

According to the AAII Investor Sentiment Survey, the bullish sentiment rose to its highest level in October 19, just before October 2018, shortly before the market experienced a weakness in the year. Such an upward trend has since been reduced to historical averages.

"Some of the sentiment values ​​have developed quite aggressively," said Horizon Carlson or too lively in this market. & # 39; "

(GRAPHIC: Investor optimism about stock returns – https://fingfx.thomsonreuters.com/gfx/mkt/13/570/570/Pasted%20Image.jpg)

Geopolitical tensions and an oil shock

Shares were hit and investors moved to safe locations on Friday after a U.S. airstrike in Baghdad killed Iran's most prominent military commander.

"Geopolitics have come back on the table and this could have a significant impact on total wealth," said Salman Ahmed, chief investment strategist at Lombard Odier Investment Management in London.

Oil prices rose on Friday and an increase in commodity prices remains a concern. Aside from the situation in Iran, Barry Bannister, head of Stifel's institutional equity strategy, said Saudi Arabia could try to boost oil prices to list ARAMCO on a larger stock exchange.

<p class = "canvas-atom canvas-text Mb (1.0em) Mb (0) – sm Mt (0.8em) – sm" type = "text" content = "December saw WTI rise more than 10% and Brent advance nearly 6%. With the dollar index <.DXY> falling 3% in the fourth quarter, continued weakness could result in a further climb in crude prices, and stagflation may result if the dollar continues to weaken while crude prices continue to accelerate. "data-reactid =" 80 "> In December WTI Increase of more than 10% and Brent Almost 6% ahead. With the dollar index <.DXY> A 3% decline in the fourth quarter, continued weakness could lead to a further rise in crude oil prices, and stagflation can cause the dollar to weaken further as crude oil prices continue to accelerate.

In addition to the growing tensions in the Middle East, UBS's Haefele notes that the risks related to Britain's exit from the European Union have "decreased, if not entirely disappeared". His "basic case is that a hard Brexit will be avoided, but this will likely continue to be a concern for investors in the coming months."

(Additional reporting by Megan Davies, Dan Burns and Chuck Mikolajczak in New York, Sujata Rao in London; editing by Megan Davies and Nick Zieminski)