October 27, 2011, it was the bottom of the 9th inning with 2 outs. Nelson Cruz leaped to catch a ball that would give the Texas Rangers their first World Series title. As you know, he didn’t catch the ball and the Cardinals tied the game and later went on the win the World Series the next game. It wasn’t known at that moment in time, but that was about the pinnacle reached for that team. Teams don’t continue to win forever, teams restructure, and teams rebuild. Stock markets work in a similar way, they have bull markets, bear markets, economic cycles, but we never know when they will come to an end. Stock markets are out of our control, as investors we need to focus on what we can control. We can control how we budget, spend, save, and choose an asset allocation that fits your risk tolerance.
US stock markets made new all-time highs this week. While that’s a good thing for those who are invested, what about those looking to invest. Is it a good time to invest at market highs? What should I do with my portfolio at market highs? How should I invest new funds at market highs? Market highs don’t necessarily mean a pullback is coming but we can look at some things happening in the economy and markets to paint a picture of what we can realistically expect.
Market Optimism– All is good in the stock markets, everyone seems optimistic right now, but that doesn’t tell you whether it’s a good time to invest or not. According to the University of Michigan Consumer Sentiment, January 2000 was the most optimistic consumer sentiment reading, which turned out to be one of the worst times to be in the stock market. On the flip side, November 2008 was the worst consumer sentiment reading and happened to be a great time to invest.
Unemployment Rate– The unemployment rate is at one of its lowest readings ever. A sign that the economy has been strong as of lately. However, the lower the unemployment rate, the lower future returns are for stock markets. Markets typically perform well as unemployment is declining from a higher starting point.
Valuation– Based on the Shiller CAPE ratio, the Stock market valuations are also frothy. This is because the economic expansion has given a lift to asset prices, in which the United States no longer looks cheap compared to many other countries. With market valuations above their 90th percentile, this is also an indication that future returns should be lower on average.
Yield Curve– There has never been a decade without a recession. We still have over a year for this one to play out, but if we make it to 2020, it’ll mark the first recession-less decade. The treasury yield curve has been a leading indicator of the last 5 recessions going back to 1980. As the yield curve continues to flatten, it’s worth keeping an eye on. Surprisingly markets tend to perform good between the yield curve inversion and start of recession. There is also about a 16 months lag time between the inversion and start of the recession.
There is not a tool or crystal ball out there that will tell you exactly how markets will perform over the next few years. Markets don’t work on a time clock but understanding market dynamics and how they have performed in previous scenarios, can give us a sense of realistic expectations of future returns. If you have the expectation that markets will perform like the last 10 years, then you don’t have realistic expectations. Instead of worrying about how to time markets to enhance your return, take this time of market strength to evaluate your level of risk and how your current portfolio is aligned to you.
Remember, your portfolio is created for a different purpose than beating the market, it’s designed for you and your specific goals. Having a proactive approach rather than a reactive approach to adjusting your portfolio will allow you to keep your plan intact. When a portfolio is not aligned with an investors risk, they will typically abandon the strategy during the worst possible time which throws off the plan completely. Talk to us to determine your risk profile or if you need to construct an asset allocation that aligns your risk with your goals.