Monthly Archives: March 2012

Great (ish) Expectations


This week at our Investment Policy Committee meeting, I asked the members of the committee to choose one of the following possible scenarios for the market this year:

1)     The S&P 500 will close roughly where it is right now (1400)

2)     The S&P 500 will close higher than it is now without a meaningful correction.

3)     The S&P 500 will close lower than 1400.

4)     The S&P 500 will experience a sizable correction midyear and then close somewhere around 1400.

Before I share with you our committee’s responses, please take a minute and decide which of these possible scenarios you think is most likely…

Interestingly, all of us decided independently that #2 was most likely in our opinion.  What do you think?

I then asked them which of the scenarios they thought was the consensus expectation of the market.  Here too we were in total agreement on#4.

An old-timer once told me that Mr. Market tends to do that which greatly “discomforts” (not his exact words) the greatest number of people.  So, our conclusions were consistent with that.  If everyone is expecting a correction, then an unabated rally would be discomforting.  If everyone was expecting ever higher prices (like back in the 1990s), then a big correction or new bear market would be surprising.

I don’t make predictions and really don’t have a strong opinion about what the market will do over any short period of time.  I do feel very strongly about the stocks I follow and own for myself and my clients.  I think they will do very well (on average) over time.

But let’s return to our assessment that the consensus is expecting a correction.  For the last two years, “sell in May and go away” would have been a good tactic.  I suspect that many people are thinking of doing this again. But, the market is rarely that predictable.  It’s not some clockwork dummy that responds in simple ways to mundane stimuli.  It’s a very complex system that incorporates the collective opinions and views of thousands of very smart investors and their smartest computers.

Another reason people may be expecting a correction may be still-tender scar tissue from the 2008-2009 global financial crisis.  I still hear people talk about the “volatility” in the market.  The VIX (the standard measure of volatility of the S&P 500) right now is 14.83, near the lowest reading for the year.  The VIX was around 24 in January (the high for the year).  In the worst days of the crisis it was 80.  Last year it peaked in the 40s.  I understand how people could say that last year was volatile or that 2009 was volatile, but to suggest that the market is overall volatile greatly puzzles me.  The current level of volatility matches up very nicely with the calm period of the mid 1990s or even the 2003-2007 period.  Right now the market is not volatile.

The second thing I hear that I really don’t understand is people referring to the “recession” as if it’s still happening.  The U.S. economy is not in recession.  In fact, we are nearly 3 years into the economic expansion which began in June of 2009.  One could argue about the level, pace or pattern of the recovery, but its sustainability should not be an issue or an item of debate, three years on.

Both of these fears – “volatility” and “recession” may be key reasons why retail investors have not fully embraced the equity market, which by the way, just passed the three-year mark of the current bull market run.

To review – volatility is at a five-year low, the economy has been growing for 12 consecutive quarters and the stock market has been rising for three years.

Now for the good news.

Companies are in great shape – profit margins are high, as are cash levels.  The housing market seems to be perking up a bit.  Valuations are reasonable.  The consumer seems to be in better shape than the past.  Expectations have risen but are still far from wildly bullish.  As long as I keep hearing talk of volatility and recession, I will likely continue to be hopefully optimistic about the stock market.  If a correction happens, I will be looking to buy some cheap stocks.  If no correction comes, I will be enjoying the rising tide with everyone else fully invested.  If something else happens, I will adapt and adjust as I always do.

Enjoy the ride.