Time to be Cautious With Equities
Do you currently own stocks or equity/ balanced mutual funds? If so, you have had quite the enjoyable run since the lows of 2009, and the returns have certainly made you quite happy. We have had almost six years of an uninterrupted bull market since the most recent financial crisis. But where are we now? What lies ahead for the next 5 years? Today’s article will place current stock market valuations into perspective, using logic and information, so you can invest based on facts and not emotions.
Are we at the Top Yet?
In a recent article entitled 7 Signs That a Stock Market Peak is Happening right Now, Michael Snyder of The Economic Collapse blog lists some compelling evidence, including:
- Just before a stock market crash, price/ earnings ratios tend to spike, and that is precisely what we are witnessing….
- The average bull market lasts for approximately 3.8 years. The current bull market has already lasted for 6 years.
- The median total gain for a bull market is 101.5 percent. For this bull market, it has been 213 percent.
- A lot of momentum indicators seem to be telling us that we are rapidly approaching a turning point for stocks…
In addition, Investing.com’s Doug Short produced a great chart in his recent article Equity Valuations, Recessions, and Market Declines. The chart shows that there has been only one time on history when the S&P 500 was more expensive as compared to it’s mean. That was March- Nov 2001 during the technology crash This picture says a thousand words:
Both the articles and accompanying charts, at the very least, give pause to anyone currently invested in, or considering investing in, the stock market.
What are the Future Implications of Such an Expensive Stock Market?
Short goes on to describe what he sees over the next 7 to 10 years and it isn’t pretty:
- The S&P 500 is likely to decline severely during the next recession, and future index returns over the next seven to ten years are likely to be low
- Given this scenario, over the next seven to 10 years a buy and hold strategy may not meet the return assumptions that many investors have for their portfolio.
Given mounting historical evidence, if you are currently invested in the stock market, you need to be aware of realities and headwinds that look to be present. This doesn’t necessarily mean that the market is going to crash tomorrow, or anything like that, as markets can certainly stay irrational for extended periods. It simply means that knowledge is power, and it may be wise to take pre-emptive measures, so that your portfolio does not catch the full brunt of a stock market correction.
What Can an Investor Do?
Fortunately there are ways you can protect your portfolio from the next downturn. These include:
- Reducing stock market exposure
- Keeping some “powder dry” with an above-average cash allocation (requires some market timing which may be difficult)
- Hedge your portfolio by purchasing inverse ETF’s, options, or utilizing stop losses (varying degrees of effectiveness plus some sophistication required)
- Utilizing alternative investments that are not heavily correlated to the stock market
- Hiring a money manager who employs tactical asset allocation, raising cash levels, and adjusting the portfolio overall, according to anticipated conditions (check historical track records to ensure you are comfortable with the manager’s risk mitigation strategy)
By most valuation measures, North American stock markets seem quite expensive, which should give many investors pause. Over the past 6 years, stock market returns have you feeling quite good, and these emotions can be very dangerous to your investment portfolio. Unfortunately, most investors react when it’s too late, and make changes after stock market declines. If you can separate yourself, and your actions, from the madness of the crowd, you are well on the way to protecting and growing your wealth beyond the average investor.
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