Last week’s surprise decision by the US Federal Reserve not to cut back on quantitative easing gave the markets an instant boost. Gold, oil and stock markets all leapt higher — but reversed those gains almost immediately.
I think that the FTSE 100 (FTSEINDICES: ^FTSE) may now be heading for a short-term correction, which could provide a great buying opportunity for Foolish investors.
1. QE doesn’t work anymore
As I write, the FTSE sits at almost exactly the level it was at before the Fed’s announcement last week. Investors had adjusted to the idea that QE might be tapered, but they aren’t happy at the ongoing uncertainty triggered by the Fed’s decision.
This jaded reaction to the Fed’s latest monetary bazooka suggests to me that QE isn’t having as much effect as it has done in the past. I think that the markets may pull back a little further before resuming their upwards path, which means that the FTSE could provide some attractive buying opportunities before Christmas.
2. The US may run out of money
In the US, government borrowing is limited by the debt ceiling, any increase to which has to be approved by Congress. This used to be routine, but in recent years it has become a problem, as opposition Republicans have started to use the debt ceiling to try and force the government to compromise on policies that they oppose.
The debt ceiling currently sits at $16.7 trillion, and the US government is expected to hit this limit sometime in October, after which it won’t be able to pay its bills unless US lawmakers agree an increase.
Failure to reach a deal could theoretically result in the US government defaulting on its interest payments. I don’t expect this to happen, but the risk could well cause investors to pull back from stock markets, until this issue is resolved, when markets may rebound.
3. The FTSE is getting pricey
The FTSE 100 has gained 30% over the last two years, and has risen by 85% since it hit rock bottom in March 2009.
The index currently trades on a trailing P/E of 17.4 and has a trailing yield of 2.8%, leaving many top stocks looking a bit pricey, in my view. Indeed, fourteen FTSE 100 shares have risen by more than 50% in the last year, and four of these have risen by more than 100%!