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Nowhere to Go But Stocks
02/09/2009 12:00 pm EST
Janet Brown, editor of NoLoad Fund*X, says stocks are way oversold and cash positions are at their peak, setting the stage for a big rally.
January ended with more historic declines—both the Dow Jones Industrial Average and the Standard & Poor’s 500 index had record drops, 8.6% and 8.3%. The small-cap Russell 2000 sank 11.2%. But the tech-dominated Nasdaq Composite index gave up just 6.4%, an improvement over last January’s 9.9% loss.
Sellers appear to be more discriminating. In extreme bear markets like last year, investors sell everything. Now, people appear to be selling things they don’t want and accumulating things they like.
Utilities, health care, and technology are losing the least. Financials and real estate funds were the hardest hit. Mid- and large-cap growth held up better than value funds, particularly small value, down 11% last month. Gold hit a five-month high.
Overseas declines were steep. The MSCI EAFE index lost 11% last month, and the average international fund lost 10%. Both the euro and British pound lost ground to the dollar on concerns related to bank losses. European funds were worst, down 10.7% on average while emerging markets, particularly Latin America were best, losing only 2%. Economic conditions continue to deteriorate. People are losing jobs and sentiment is down because many people are both pessimistic and poorer.
As Mark Hulbert observed in his January 25th New York Times column, even investors following, “a ranking system with impeccable long-term credentials” experienced double-digit losses. He reported that of all the best fund ranking systems, including NoLoad Fund*X, Morningstar, and Value Line, none outperformed the market in the fourth quarter. He concluded that it’s unrealistic to expect better. To have sidestepped severe losses last quarter, a stock fund investor would have had to be in cash, which even the best market timing newsletters (according to Hulbert’s research) would not have accomplished.
Money market funds grew by more than $500 billion in 2008. As a percentage of the capitalization of the US stock market, money market funds are now over 40%. This is significantly higher than the previous peak of 27% reached in early 2003 after the 2000-2002 bear market.
Stocks are both cheap and oversold. They are priced at more attractive valuations than we have seen in 20 years. By the end of 2008, the P/E valuation for the US stock market (S&P 500) dropped to 13.9x—meaning stocks were inexpensive—relative to its recent (24.9x) and long-term averages (17.2x). Historically, a below-average P/E ratio for the stock market has preceded a two-year period of above-average stock returns.
With the federal funds rate near 0% and the Federal Reserve using all of the tools at their disposal, borrowing rates will likely stay at levels unsatisfactory to investors for a while. It will be increasingly difficult for investors with over $3 trillion in money market funds and savings accounts to justify investing for a negative real return. And that cash will eventually be fast-burning fuel to move the stock market higher.
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