At present, the major risk to economic stability is not that the stock market is strenuously overvalued, but that so much low-quality debt has been issued, and so many of the assets that support that debt are based on either equities, or corporate profits that rely on record profit margins to be sustained permanently. In short, equity losses are just losses, even if prices fall in half. But credit strains can produce a chain of bankruptcies when the holders are each highly leveraged. That risk has not been removed from the economy by recent Fed policies. If anything, it is being amplified by the day as the volume of low quality credit issuance has again spun out of control.Yes, this is an equity bubble
A few notes on valuation and investment returns. First, as I’ve noted frequently in recent comments, it’s quite reasonable to argue that lower interest rates can “justify” higher valuations, provided that one also recognizes that those higher valuations will still be associated with commensurately lower future equity returns. At present, we estimate zero or negative nominal total returns for the S&P 500 on horizons of 8 years or less, and about 1.9% annual total returns over the next decade. If these prospects seem “fair” given the level of interest rates, that’s fine – one can then say that low interest rates justify current valuations – but that doesn’t change the outcome: the S&P 500 can still be expected to experience zero or negative total returns on horizons shorter than about 8 years (and even that assumes that corporate revenues and nominal GDP grow at their historical norm of about 6% annually in the interim).
My sense is that investors have indeed abandoned basic arithmetic here, and are instead engaging in a sort of loose thinking called “hyperbolic discounting” – the willingness to impatiently accept very small payoffs today in preference to larger rewards that could otherwise be obtained by being patient. While a number of studies have demonstrated that hyperbolic discounting is often a good description of how human beings behave in many situations, it invariably results in terrible investment decisions, particularly for long-term investors. As one economist put it, “they make choices today that their future self would prefer not to have made.” In effect, zero interest rates have made investors willing to accept any risk, no matter how extreme, in order to avoid the discomfort of getting nothing in the moment.DYI Comments: Spot on John Hussman....I realize that many detractors will want to dismiss your warnings for your 2008 -2009 failure to load up on stocks. Nor is it the time to throw the baby out with the bath water for all of DYI indicators are flashing an over valued market producing poor to possible market losses over the next 7 to 10 years for your dollars invested today (or stock held going forward).
Ben Graham Corner
Margin of Safety!
Avg. Price to Dividends PD 23
Central Concept of Investment for the purchase of Common Stocks.
"The danger to investors lies in concentrating their purchases in the upper levels of the market..."
Stocks compared to bonds:
Earnings Yield Coverage Ratio - [EYC Ratio]
EYC Ratio = [ (1/PE10) x 100] x 1.075] / Bond Rate
1.75 plus: Safe for large lump sums & DCA
1.30 plus: Safe for DCA
1.29 or less: Mid-Point - Hold stocks and purchase bonds.
1.00 or less: Sell stocks - rebalance portfolio - Re-think stock/bond allocation.
Current EYC Ratio: 1.01
As of 07-27-14
PE10 as report by Multpl.com
Bond Rate is the rate as reported by
Vanguard Long-Term Investment-Grade Fund Investor Shares (VWESX)
DCA is Dollar Cost Averaging.
PE10 .........26.16
Bond Rate...4.08%
PE10 .........26.16
Bond Rate...4.08%
Over a ten-year period the typical excess of stock earnings power over bond interest may aggregate 4/3 of the price paid. This figure is sufficient to provide a very real margin of safety--which, under favorable conditions, will prevent or minimize a loss......If the purchases are made at the average level of the market over a span of years, the prices paid should carry with them assurance of an adequate margin of safety. The danger to investors lies in concentrating their purchases in the upper levels of the market.....
OR
Harnessing market hubris and timidity (greed and fear).
The value player’s most important weapon in achieving superior long term returns is tactical asset allocation. This is true during secular bear markets when fixed asset allocation, especially those with high percentage of stocks, returns are dismal at best and losses at worst.
History and math show that when asset prices are below intrinsic value future returns are superior conversely when asset prices are above intrinsic value returns are tepid.
Simply put tactical asset allocation strategy is being more aggressive in undervalued assetS and be less invested in over valued assets.
DYI’s formula is an averaging formula answering the question what percentage without emotion.
7-27-2014
STOCKS
100 - [100 x ( Curr. PD - Avg. PD / 2 ) ]
________________________________
(Avg. PD x 2 - Avg. PD/2)
Avg. Price to Dividends PD 23
Current Price to Dividends 53
% Allocation -20%
-20% x 60 (max. allocation) = 12% short
No comments:
Post a Comment