Monday, August 22, 2011
So What Should Investors Do Now?
I was supposed to be on vacation last week, but thanks to modern technology (curse you, Steve Jobs and Apple!) I was well aware of the carnage in the market.
The last four weeks have been the worst for the S&P 500 since March 2009. The papers are full of recession talk, and it is hard to find anyone who has a good word for stock investing.
I listed a number of reasons a couple of weeks ago that I remain convinced that stocks should play an important role in most investors' portfolios, and I still believe it.
To start with, I would note that the same economists who are so confident in their opinions that we are headed for a "double-dip" recession are the same ones who just six months ago were convinced that interest rates were set to soar as inflationary pressures loomed.
My point is not to criticize the economics profession, but rather to point out how difficult forecasting truly is. In my opinion, investors can only make decisions on the facts at hand, weighing the potential risks and rewards of various asset classes. History tells us that markets often move before economic fundamentals suggest.
Investing in a Treasury Bill with a 0% yield, or a bond yielding less than 1% (which is where most high grade bonds are trading these days) , makes sense only if you believe that we are heading for a severe decline in corporate America, which doesn't seem likely at this point.
Remember - and it seems so long ago - that we just finished the earnings reports for the second quarter, and fully three-quarters of the companies in the S&P 500 beat earnings expectations.
Corporate America is flush with cash, and corporate balance sheets are generally in good shape. Thanks to the Fed, the capital markets are awash in liquidity, and virtually no credit-worthy borrower is unable to get the funds they need. We are a long way away from the credit crunch of 2008.
Corporate insiders have been gobbling up their own company's shares at the fastest rate since March 2009, indicating a fairly high level of confidence in the future.
At 12x earnings, the market is priced attractively relative to longer term historic averages. The dividend yield of the S&P 500 is 2.2%, which is higher than the 10 year US Treasury note. Moreover, the payout ratio of the companies in the S&P is just about 26%, which not only means that today's dividend rates are sustainable but also that there is room for dividend increases.
I could go on, but you get my point: I understand that the market's technicals are currently not good, and there is a reasonable chance that the broader averages could move lower in the near term. But for anyone investing with a reasonable time horizon, larger cap dividend-paying stocks seem to offer the best potential returns.
Where could I go wrong?
My biggest concern is more political than economic. A rash decision made by either Congress or the President in order to gain a political advantage could turn today's slowdown into a full-fledged recession. Hopefully, however, cooler heads will prevail.