3 things that can derail the S&P/ASX 200 record high rally

It won't be valuation that would break the S&P/ASX 200 (Index:^AXJO) (ASX:XJO) index winning streak. The real threats to our bull market lie further afield.

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The S&P/ASX 200 (Index:^AXJO) (ASX:XJO) index broke above its 2007 record close even as experts warn that ASX shares are overstretched and have run ahead of fundamentals.

The top 200 stock benchmark gained 0.3% to 6,845 points on Tuesday, beating the previous record set 12 years ago of 6,829, with the Credit Corp Group Limited (ASX: CCP) share price, Orica Ltd (ASX: ORI) share price and Newcrest Mining Limited (ASX: NCM) share price topping the leaderboard.

Fears that we could be facing a painful correction as we head into the August reporting season will likely intensify as companies hand in their profit results and issue their outlook statements in what can only be described as a lacklustre economic environment.

There's some good and bad news for diehard market bulls. The path of least resistance is up and the market needs a trigger to go into a meltdown.

Overvaluation not a big threat

What's more, the trigger point won't be valuation. It's hard to believe but valuation is seldom the key reason for markets to change directions – whether up or down.

Don't get me wrong, valuation is an important consideration but history has shown during both bear and bull markets that stocks can stay overvalued and undervalued for extended periods.

This tells me that we should be too focused on price-earnings (P/E) multiples and book values.

However, this isn't to say there aren't any real threats to our bull market. I can think of three possible events that could trigger a painful market correction.

These aren't the only three risks on the horizon either, although they are the arguable the nearest-term and most probable factors that can send the ASX into a tailspin.

Fed fright

The first is the US Federal Reserve, which will meet later today and announce their interest rate decision tomorrow.

The market is expecting a 25-basis point cut, which would be the first time the Fed has lowered the official rate since the GFC. There is a slim chance (around 20% according to market pundits) that it could even make a 50-basis point cut.

The rate decision itself probably won't do anything for markets. It's the Fed's outlook statement that will. If the Fed indicates its less inclined to cut more, that would be a big negative trigger for global equities, including Aussie shares.

Trade talk crock

US and Chinese trade officials will resume trade negotiations this week in Shanghai (or at least try to). Expectations are low and no one is expecting much of a breakthrough as both sides have hardened their stance amid the escalating trade war.

However, if it seems that tense trade relations are moving backwards, it could give share investors a reason to take profit.

On the other hand, if both sides can at least reach an agreement on a way forward (and that's really all anyone can hope for), it could improve market sentiment.

Brexit Johnson

A looming threat that Aussie investors have only watched from a distance with bemusement is Brexit.

No one know exactly what will happen if Britain leaves the European Union without a deal, but experts agree it will be ugly and it will hurt the global economy.

The EU represents the second largest economy although that title typically goes to China because the EU is made up of a collection of states and not one country. But if a hard Brexit is to hurt the UK and EU economies, you can bet we will feel it and that cause ASX investors to rush for the exits.

What's more, the risk of a hard Brexit is increasing as the UK new Prime Minister Boris Johnson is promising to deliver Brexit, no matter what.

Motley Fool contributor Brendon Lau has no position in any of the stocks mentioned. Connect with him on Twitters @brenlau.

The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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