Who said we should sell in May?

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Friday, July 18, 2014

BullMarketBY JASON NORRIS | OB GUEST CONTRIBUTOR

Back in May, we shared a common Wall Street quote about investing, “Sell in May and go away.” Fast forward to July and the most common question we have been getting from clients is, “When is the market pullback going to occur?” Stocks are up over 200 percent from the March of 2009 bottom and 75 percent from the most recent market correction (of 15 percent) in October of 2011. While it has been close to three years since a major correction, history has shown this can continue for quite a bit longer. Our friends over at Cornerstone Macro Research put the following chart together.

bullmarket

What caught our attention is that fact that there are multiple periods where stocks can grind higher without a major pullback. We are not forecasting a specific time period; however, when looking at the fundamentals of the stock market, we could argue that the S&P 500 can continue to move higher without a meaningful pullback. First, U.S. economic growth is improving and global GDP should continue to trend in the mid-single digits resulting in corporate earnings growth slightly stronger. Second, with low inflation and interest rates, the valuation of the equity market is still attractive. The price-to-earnings multiple of the S&P 500 still has room for upside from 15.6x at current levels of inflation and interest rates. While there will always be unforeseen shocks, the risks in the system are not as predominate as we saw in 2011 (European debt crisis, U.S. debt downgrade, fiscal austerity) or 2000 (stretch valuation, consumer sentiment falling, manufacturing data weakening). What investors should be cognizant of is a spike in oil prices due to Middle East tensions, China’s economic growth slowing meaningfully, and/or reaction to Federal rate hikes in 2015.

While the S&P 500 sits close to an all-time high, many investors have been sitting on cash for years waiting for a buying opportunity; and in this case, patience may not be a virtue. Putting some of that money to work may be a practical move.

Megalomania

“I had a very strong work ethic. The problem was my ethics at work.” Boiler Room, 2000

We’ve been having flashbacks to the late 1990s with CNBC reporting on the latest “penny stock” craze. The company (or at least that is the speculation) is a social media site called Cynk Technology. The stock had gone from pennies earlier in the year to over $20.00 (which resulted in a valuation greater than $4.0 billion) until the SEC halted trading in mid-July. The most disturbing piece of information is that apparently this company has only one employee, no assets and no revenue. Over time we have seen several stocks have stellar runs, but usually there are assets behind the venture. It is too early to determine if the company is involved in the hype of the stock or if this being perpetrated by infamous “pump and dump” stock brokers that hype stocks to their clients and then subsequently take the opposite side of the trade. I have seen reports that high-frequency trading may be involved; however, this seems very unlikely. If it is, the programmers who wrote the trading algorithms should be looking for work.

The punchline to this story is that it is easy to get caught up in the next big trade for “easy money,” as was highlighted in the internet bubble of the 1990s, or even the Dutch tulip craze in the 1600s. What clients need to remember is the importance of doing their homework for selecting stocks, bonds and mutual funds and selecting an investment manager or financial planner. Ethical issues in the investment business have been tested over time; therefore, investors should do their due diligence. When considering outside help, professionals with strong credentials (CFA, CFP®, etc.) are a place to start.   

The Decline of Western Civilization

This isn’t a commentary on the early 1980s “docudrama;” rather, it’s a reflection of the most recent ratings of the United States and financial literacy. The Organization for Economic cooperation and Development (OECD) conducted a study of 18 nations on financial literacy and the U.S. ranked right in the middle. 

chart2

Unlike several countries above, only 19 states require a course in personal finance in high school, with Oregon not being one of them. Personal finance is very important for our youth, as we have seen what poor financial decisions can do to an economy (most recent housing crisis).  While our state doesn’t require this course, Junior Achievement of Oregon and the Oregon Council of Economic Education are examples of nonprofits working with students to further their education. These groups can broaden students’ exposure to these important topics without burdening teachers and administrators.


Jason Norris, CFA, is executive vice president of research at Ferguson Wellman Capital ManagementFerguson Wellman analysts blog on the financial markets for Oregon Business.

 

 
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