What are we to make of the current stock market environment? Well, that's a tough one. If we were to survey some number of the media's favorite pundits, I'm guessing we'd get a pretty even split. About half would spout the improving U.S. economy, the rosy state of corporate balance sheets, growing profit margins, capital expenditures (business expansion) on the rise, the yet to arrive retail investor, and valuations that---with inflation factored in---are reasonable, as sufficient evidence there's nothing to worry about on the near-term horizon. The other half would spout the mired state of much of the rest-of-the-world economy, the extended age of the present bull market, the coming rise in interest rates, all the geopolitical unrest, and the recent bearish moves of a famous hedge fund manager as proof positive that there's serious pain a coming.
The above, almost verbatim, sums up the articles I've suffered through this weekend. Not that I don't find value in the stats, most of which I've already considered, it's those grand predictions that bend my brow and send my head pivoting left and right.
Okay, I'll cease here with the cynicism. I suspect regular readers have heard enough from me, for now, on the nonsense of trying to time the stock market.
So, again, what are we to make of the current environment? Read again paragraph one. While I can offer up pages upon pages, from last week alone, from my daily journal, suffice it to say that paragraph one sums up today's economic state of affairs fairly well. The question is, what does all that mean for the stock market in the near-term? Of course you---a long-term investor---shouldn't be fretting over the near-term. That said I, nevertheless, suspect you are. And, of course---being a staunch critic of those who pretend to know the near-term direction of the stock market---I wouldn't dare try to allay your worries with some fancy prognostication.
Let's instead play devil's advocate with those bull and bear pundits by rebutting their main points, one at a time:
Rebutting the Bulls:
The improving U.S. economy: Rebuttal: Yes, the indicators have improved markedly of late. However, with the end of quantitative easing a month away, a now wavering bond market, the Fed looking to raise interest rates in the not too distant future, the Euro Zone flirting with recession, and sketchy results out of East Asia, the current "recovery" holds little hope of sustainability...
Rosy state of corporate balance sheets: Rebuttal: No doubt, corporate balance are as healthy today as they've been in decades. But that speaks to uncertainty over the future. Against the facts stated in the previous paragraph, the kind of business investment that might propel productivity, and the economy, to new heights just isn't going to happen. Stock prices have been bid higher in anticipation of future earnings growth that simply isn't going to materialize against present headwinds...
Growing profit margins: Rebuttal: Companies have cut all they can and we're simply not going to see margin expansion---against present headwinds---going forward...
Capital expenditures on the rise: Rebuttal: Meaningful capex has been absent throughout this long slow recovery. Yes, we are seeing a pick up, but that's more about replacing old machinery than it is about aggressively expanding operations...
The yet to arrive retail investor: Rebuttal: Sure, the retail investor is generally late to the party, and has yet to fully engage with the present bull market. The thing is, 2008 was such a shock to the individual investor's psyche, that this go-round---against all the global uncertainty---he/she simply isn't coming to play...
Valuations are reasonable: Rebuttal: Yeah but that's using the current price to earnings multiple. Robert Shiller's CAPE (cyclically adjusted price to earnings multiple) is around 26, which is historically high. Besides, whether we're considering today's P/E, or CAPE, higher interest rates demand lower price to earnings multiples. And---against present headwinds---earnings are not going to accelerate nearly enough to keep valuations reasonable. Therefore, those lower multiples will come by way of lower share prices...
Rebutting the Bears:
The mired state of much of the rest-of-the-world economy: Rebuttal: Sure, much of the world outside the U.S. is struggling, but it's not at all unusual for the world's largest economy to lead the rest into an expansion. Notice how the ECB is just now adopting the kinds of programs the Fed is just now winding down. And note the vastly-improving U.S. economy and how incredibly well the U.S. stock market has performed under those Fed programs. The rest of the world is bound to improve. And, from an investment standpoint, valuations overseas are by and large more attractive than here at home. Other economies and equity markets playing catch up to the U.S. will bolster global confidence and promote earnings growth for U.S. multinationals.
The extended age of the present bull market: Rebuttal: While this bull market ranks 4th in terms of length, and 3rd in magnitude, it's got quite a run ahead if it's going to reach the next plateau in either sense. In terms of length, the present bull would have to keep running for another 235 days to surpass number 3. In terms of magnitude, the S&P 500 has 25% upside to go to earn that number 2 spot. To get to number one in both categories, we're talking another 2,480 days and 131% respectively---no kidding! With no recession for the U.S. economy remotely in sight, there's no reason to count this one out. Not by a long shot...
The coming rise in interest rates: Rebuttal: Rising interest rates will not only not be a headwind for the market, what it indicates is extremely positive. That is a growing economy. The Fed will only raise interest rates if it believes the economy can stand on its own two feet. And that simply means more good solid economic and earnings growth ahead...
All the geopolitical unrest: Rebuttal: Name a time when those four words "all the geopolitical unrest" could not be legitimately uttered. I know, you can't. Therefore, we can't conclude that geopolitical unrest poses a serious headwind for this market. In fact, that's a statement that can only be legitimately made in retrospect. Meaning, political unrest is not a headwind until it is. And, other than for a day here and a week there, geopolitics has been anything but a headwind for the present bull market. If anything, it's helped keep uncertainty alive, which is a key ingredient to long-running bulls. As they say, "bull markets climb a wall of worry".
The recent bearish moves of a famous hedge fund manager: Rebuttal: So George Soros is supposedly betting big on a big correction for the S&P 500. I also happen to know that during the period when he bought those spx puts, he added 180 stocks to his portfolio. Clearly, the gentleman is hedging a bit (he is, after all, a "hedge fund" manager), and has not gone all in on a bearish bet. It's not even an indication that he's betting on a full-fledged bear market. Your garden variety correction of 10% would, I suspect (depends on his strike price), yield him a very nice profit on his gamble. And even if he were going all in on a soon-to-arrive bear market (which, clearly, he's not), who's to say the billionaire octogenarian has it right this time. While he boasts a fine reputation, he's been wrong before, I assure you...
So there you have both sides of the debate. The funny thing is, every single argument and counter-argument is entirely plausible. As for the "experts" who firmly commit to one argument or the other, I assure you, they're speaking their personality and promoting their positions. For, in terms of their positions, if they're passionately bullish, they're all in. And the more they can convince folks to join their party, the more the gains they'll make as the newcomers bid their shares ever-higher. For those who are committedly bearish, they're either entirely out, or short (betting on a drop). And the more they can convince folks to follow their lead (sell stocks), the lower the prices when they finally wade back in (or the more they'll make on those short positions).
I suspect that, as you read the above, you found yourself sympathizing with one side of the argument. Now, if you can somehow step outside yourself and detach from either story (resist your natural tendency), you will become an enlightened investor. You'll know that there's no knowing the near-term future of the stock market and you'll surrender to the investment wisdom of the ages (hmm... I'm feeling kinda spiritual all of a sudden). That is, you'll maintain the appropriate portion of your portfolio (based on your age and tolerance for volatility) in the stocks of the companies that will produce the goods and services the world will want and need---amid an ever-changing, ever-volatile, geopolitical environment---for eons to come. You'll look forward to the opportunities to rebalance into inevitable corrections and bear markets, while tweaking your sector weightings here and there as the world economy cycles its way into the future.
Breathe my friend.... peace of mind will be yours. :)
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