In the near-term there appears to be little risk to the equity market,
which alone is reason for investor concern. From a macro standpoint,
there appear to be two outcomes:
- The economy is stable and continues to grow, albeit slowly. Top line revenue improves. Earnings look good.
- The economy is slows and growth looks like it is coming to a halt. Fed easing continues. Bottom line improves + valuations expand.
It really seems like a no lose
proposition with short-term valuations at reasonable levels (though those
can be be distorted). Let’s consider some of the known risks.
- China property bubble pops.
- Europe in recession.
- Middle East trouble.
- Other - flash crash, natural disasters.
The last two bullets are always going to be on the
list. When hasn’t the Middle East been
on the verge of erupting? You can’t use
that to justify not investing in equities or you would always be in cash.
Same with “other”. As for China and Europe, you can simply underweight those
positions to mitigate risk. The US stock market has shrugged those off.
Back to the original point, aside from those unknown risks,
which by definition I can’t list, I can’t seem to find a whole lot of risk in
the stock market in the near-term.
The risk, as I see it, might be a few years out where various intermediate valuation and
trend measures are less favorable (note: these have been confirmed
by our own independent research). And unless this time is different, as
in the past, they will revert to the mean. Though still this says little
to nothing about the next 12 months, and leaves us in a precarious
position. By example, a 40% loss reduces a 140% gain to a 44% gain.
Still, as mentioned earlier, nothing in the near-term causes me to think it
will happen soon and those valuation measures are meaningless over a shorter
time horizon.
Further, we appear to be about at the average of most bull
market cycles, as Jon Hussman notes:
Bull market advances [since 1940] have averaged a 123% price gain, a 162% total return, and a duration of 4.4 years.
Thus, while we may be long in the current bull market tooth,
nothing YET indicates an immediate move into bear territory. Further,
while sentiment has been improving, at least in my mind it doesn’t seem to have
reached “all in” mood yet. (note: this is subjective based on my research,
experience, and conversation with clients and retail investors).
Ultimately I am comfortable with a cautious approach to
equities. Investors should recognize the unfavorable intermediate-term
signals, but not base their buy/sell decision totally on those. Investors can do this by current bull market
run with allocations to higher quality equities and pumping the breaks when
appropriate.
I don’t know whether market complacency, Fed tightening, China,
Europe, a flash crash, our own recession etc. will start the next bear market,
but I am willing to see where the things go and scale back exposure when the
market signals to do so.
Past performance is no guarantee of future
results. Diversification does not guarantee a profit or protect
against a loss. International investing involves special risks, including, but
not limited to, the possibility of substantial volatility due to
currency fluctuation and political uncertainties. The views and
opinions expressed herein are those of the author(s) noted and may or may not
represent the views of Capital Analysts, Inc. or Lincoln Investment.
Nothing in the above writing should be taken as an investment recommendation.
