Tuesday, November 22, 2016

November 21, 2016

John P. Hussman, Ph.D.
As for the post-election theme-chasing, we observe that across many asset classes, reliable measures of investor sentiment have been driven to extremes of optimism (equities, the U.S. dollar) and pessimism (bonds, foreign currencies).


Within equity market action, we also see wide internal dispersion, which remains consistent with underlying risk-aversion among investors, at valuations that remain obscene from a historical perspective. While we're hearing historically uninformed references to the extended bull markets of the 1980's and the 1950's, the most reliable market valuation measures are presently over four times their 1950 and 1982 levels.
 Geometric Standard Deviation Average
DYI Quick Comment:  DShort's methodology is different than John Hussman's however the outcome is the same - THIS IS ONE WILDLY EXPENSIVE MARKET!


The effect of politics on full-cycle and 10-12 year market outcomes is negligible, compared with the impact of valuations. Over shorter segments of the market cycle, election results do have the capacity to affect investor sentiment (particularly preferences toward risk), so a focus on the quality of market action will remain important.


Near-term, my impression is that much of the recent market response is overdone, and that the markets are vulnerable to decided reversals in the opposite direction of recent trends.


As I noted last week, extreme valuations already establish the likelihood of near-zero 10-12 year S&P 500 total returns, and a 40-55% market decline over the completion of the current cycle.
The extended speculation in the recent half-cycle was rooted in monetary distortion and risk-seeking that is now unwinding, and we continue to expect the completion of this cycle within the natural course of action and reaction.
DYI:  The EYC Ratio shows a very expensive market as well - 1.08.  Any further advances in stock prices and/or increase in yield for high quality long term bonds our indicator could very well drop below one signifying a re-think one's asset allocation. 

Ben Graham's Corner

Margin of Safety!
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 1.1] / 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: 1.08
As of 11-20-16
Updated Monthly

PE10 as report by Multpl.com
DCA is Dollar Cost Averaging.
Lump Sum any amount greater than yearly salary.

PE10  .........27.01
Bond Rate...3.77%
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.....
Common Sense Investing:
The Papers of Benjamin Graham
Benjamin Graham

As amazing as it is with U.S. interest rates at sub atomic low levels Vanguard's Long-Term Investment Grade Bond Fund symbol VWESX with a current yield of 3.77% will highly likely out perform Vanguard's Total Stock Market Index Fund symbol VTSAX - bought today (reinvested both funds) and held for the next 10 to 12 years.  At the end of that time frame it is highly likely the bond fund will be the winner.  Stocks are simply marked up to crazy valuations.  Investment grade long term bonds will most likely be the winner but the winner of who losses the least amount!  My sentiment indicator has investment grade long term bonds at Max Optimism a very poor starting position.
  

Market Sentiment

Smart Money buys aggressively!
Capitulation
Despondency
Max-Pessimism *Market Bottoms*Short Term Bonds
Depression MMF
Hope
Relief *Market returns to Mean* Gold

Smart Money buys the Dips!
Optimism
Media Attention
Enthusiasm

Smart Money - Sells the Rallies!
Thrill
Greed
Delusional
Max-Optimism *Market Tops* Long Term Bonds
Denial of Problem U.S. Stocks
Anxiety
Fear
Desperation

Smart Money Buys Aggressively!
Capitulation 

The way to make money in the markets is to identify secular changes or moves, invest into that asset category (with an index low cost fund if possible) and then hang on for the wild ride.  Only reducing your exposure as valuations begin their climb and increasing investment as valuations improve in opposing assets.  

Today the most unloved asset category is the money market fund and its cousin the ultra short term bond fund.  Who in their right mind would put money into these two similar assets?  A secular driven historically minded value player!  When everyone else thinks you have lost your mind you are most likely are on to something!

The remaining asset DYI follows for my model portfolio is gold or to be more accurate the precious metals mining companies.  There is room on the upside for this asset category despite being in a secular move beginning in 2003.  However as my model portfolio shows the percentage is muted due to long term run of over a decade reducing its positive valuation.

 Updated Monthly

AGGRESSIVE PORTFOLIO - ACTIVE ALLOCATION - 11/1/16

Active Allocation Bands (excluding cash) 0% to 60%
85% - Cash -Short Term Bond Index - VBIRX
15% -Gold- Precious Metals & Mining - VGPMX
 0% -Lt. Bonds- Long Term Bond Index - VBLTX
 0% -Stocks- Total Stock Market Index - VTSAX
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DYI  

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