Based on the excellent results in each of the top three major market indicators so far this year – and compared with what has been seen over the past few years – a number of folks seem to be getting nervous about the stock market’s continuing climb. Through this past Friday, the S&P500 is up to another new all-time high; gaining about 22% since we began the year. (1) The NASDAQ is at a 13 year high and the Dow within 1% of its all-time high. (2)
On top of that, Treasury yields have fallen to 2.5%, a 3 month low, as investors are currently believing that the Fed won’t be starting its taper anytime soon. The Fed announcement this coming Wednesday may give us some insights into their thinking.
There don’t appear to be any huge, obvious risks on the horizon (Europe isn’t blowing up and the US fiscal fights have been pushed back). Earnings are doing fine and there’s no inclination that any of the major central banks is in the mood to tighten policy.
Seems like a good market environment, doesn’t it? Well, that’s just what worries a number of people. In other words, if things are this good now, there has to be something bad just over the horizon…doesn’t there?
“The indices have gained too much”
Let’s call on the nice people at Mebane Faber Research. They’ve charted the results of the S&P500 over the past 112 years.
If you really are a long-term investor and have been in the S&P over that entire time, you shall have had an average 11% return. Pretty good.
However, even though this year’s year-to-date numbers are above average, the market has done lots better. Matter of fact, according to the Mebane folks, over those 112 years, 30% of those them saw returns higher than where we are now – years where the index has increased by 25, 30 or even 40 percent.
Potential pent-up demand
The latest survey by Bank of America Merrill Lynch covered 172 mutual fund managers managing over $500 billion in assets. Due to the recent flood of bond and bond fund liquidations, the survey showed a 7½-year low in bond positions relative to the funds’ benchmarks. What the survey data also shows is that this money hasn’t moved into stocks. Instead, it’s gone mostly into cash – in which a growing number of funds are overweight. Seems likely to me that some of those funds will be allocated into stocks at some point.
Additionally, according to Investment Company Institute (ICI) data, the share of all mutual fund assets (excluding money market funds) that was stocks was 65.7% at the end of 2012. This is below the 71% average of all comparable monthly readings since 1970. Seems another indication that more buying will be coming in the mutual fund sector.
Elliot Spar, market strategist at Stifel Nicolaus wrote, “It’s the kind of market where buying begets buying and selling begets selling. It could get exacerbated to the downside by those money managers who don’t want to ruin a great year in the last two months.”
Walter Todd, chief investment officer at Greenwood Capital Inc., added that, “From October 9 through Friday, the S&P was up over 6 percent. That’s a tremendous move in a very short time, so I don’t think it takes much to get people to step back for a minute to catch their breath.”
I think they both make good points in that the market is going to continue in a skittish phase for the near-term. If you’re not a trader, that’s of little real concern. Remember that chasing any stock market index has little to nothing to do with your actual financial goals. In other words, don’t let whatever the current index results are affect your overall portfolio decisions.
How to participate now
Keep these big picture thoughts in mind going forward.
We’ve got a trifecta of bullish tailwinds right now: solid earnings growth, an accommodative Fed and a boom in GDP caused by corporate America’s need to invest. Invest in their businesses through capital expenditures and technology, for example. Investors should be patient and look beyond this earnings season to corporate outlooks for 2014 as expectations for growth rise.
As I’ve said previously and maintain now, I think this is a great time to transfer your assets in a couple areas.
First, high-yield stocks are now at a historic premium to their usual levels. I believe a switch ahead of the time they revert to more normal values from them into dividend-growing stocks will prove beneficial.
Next, moving from those areas seen as being defensive – consumer staples, health care, telecommunications and utilities – into those defined as cyclical – consumer discretionary, energy, financials, industrials, materials and technology – will likely prove advantageous. That’s because, historically, when the economy has had positive industrial production momentum as we do now, a high percentage of cyclical companies have experienced better-than-expected earnings.
It’s been my experience that companies that beat earnings typically experience a boost in their stock prices over time…a good thing, indeed. This is not the time to get off the equity train.
(1) CNBC, 25 Oct 2013
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