Stocks don't deserve their recent bad reputation - Stocks don't deserve their recent bad reputation -

Sunday, July 8, 2012

Stocks don't deserve their recent bad reputation -

Stocks don't deserve their recent bad reputation -

With all the fear and loathing out there, you would think the stock market has been in a meltdown. In fact, stocks were up 9.5 percent including dividends over the first half, positioning 2012 to be a pretty good year.

This is another example of the market climbing the proverbial wall of worry -- rising despite widespread anxiety and low expectations. That's nothing new, but the extent of the pessimism these days seems unjustifiably intense.

Sure, there are problems, but there always have been. Is the European debt crisis worse than, say, the oil shortages and hyperinflation of the 1970s? Do federal government deficits warrant louder alarm bells than the threat of mutually assured nuclear destruction with the Soviet Union in the early 1980s? Would you rather have a rancorous health-care debate or a global epidemic like the flu outbreak that killed more than 20 million people at the end of World War I?

The popular sentiment is that today's problems are not just unsolvable but worse than anything that has come before. Much of the public sees the current economic situation as one-sidedly negative, when clearly that's not the case.

A few examples to the contrary: Auto sales are surging, housing prices are starting to rebound, oil prices have eased, bankruptcies have declined steadily, corporate cash is near record-high levels, credit-card delinquencies are back below pre-recession levels, municipal finances have stabilized and hardly any banks are failing anymore.

Even so, millions of Americans have thrown in the towel on stocks and, perhaps, risky assets in general -- though most people have little chance of a comfortable retirement without some exposure to volatile investments and the gains only they can generate.

At the current average 0.32 percent yield on one-year certificates of deposit, it would take about 225 years to double your money (ignoring inflation and taxes). The stock market doubled over the past three years.

Yet people continue to shun stocks as if they carried rabies:

Just 19 percent of respondents said they're willing to take above-average or substantial risks, according to a survey conducted by the Investment Company Institute last year.

Investors have put more money into bond mutual funds than stock funds in 47 of the past 49 months, although bonds have their own problems and could get hit hard if interest rates spike.

Stocks have become less popular than even banks. In a recent survey by the University of Chicago, only 15 percent of respondents said they trusted the stock market. More than twice as many, 32 percent, said they trusted banks.

It's not just novices either, as risk tolerance has dropped among many financial advisers and professional investors who should know better than to get so worked up over the latest headlines.

About 58 percent of money managers surveyed recently by Russell Investments said they expect the U.S. economy will continue to grow, and 48 percent view the stock market as undervalued (compared with 43 percent who think it's fairly valued and 9 percent who consider it overvalued).

Yet the same professionals have turned much more bearish on stocks.

In Russell's view, professional money managers are "struggling to reconcile their rational beliefs that risky assets make sense ... with their emotional reactions to the headline-grabbing issues and uncertainty in Europe."

In another recent survey, by investment-firm BlackRock, just 11 percent of advisers said they consider holding too much cash to be a major mistake.

In other words, many professionals are exhibiting the same lack of perspective and short-sightedness for which amateur investors are roundly blamed.

Is now a particularly bad time to invest?

It's true we've had a strong rally over the past three years, which means the easy money already has been made. Also, the late summer/early fall period is typically weak.

But price/earnings ratios for stocks in the S&P 500 remain slightly below average, implying values are still reasonable, notes JPMorgan Asset Management. P/E ratios are modest whether you use lagging earnings (actual profits over the past 12 months) or forward earnings (what analysts expect in the next 12 months).

Another interesting observation from JP Morgan: Stocks typically beat commodities, bonds and cash in most inflationary environments. When inflation is low and falling -- the trend we've been in -- stocks historically return about 12 percent annually. When inflation is low and rising -- the environment where we're headed next -- they've returned closer to 20 percent.

So does this mean you should plunk everything into the stock market?

Of course not. Balance makes sense in most things and certainly with an investment portfolio. But adding some stocks to a fixed-income portfolio can improve the risk/reward dimensions a lot.

For example, a portfolio split evenly between stocks and bonds returned 8.9 percent annually on average over the past 20 calendar years, notes JP Morgan. An all-stocks portfolio generated 10.8 percent annually, while bonds alone returned 6.3 percent.

But to hold stocks, you need to be comfortable enough with the decision to see it through. That means you should take a long-term view, keep things in perspective and relax a bit.

Reach Wiles at or 602-444-8616.

No comments: