The Standard & Poor’s 500 Index, our most common measure of stock performance, was up more than 26% in 2008. From the March low through year-end, it was up a whopping 68%. Despite the recent monster rally, the index is still approximately 25% below its October 2007 peak. This is the good news. This is the type of abrupt recovery that reminds us not to panic. Better yet, legendary investor Warren Buffet says, “Be greedy when people are fearful and be fearful when people are greedy.”
However, another well-known adage says, “The pendulum never stops in the middle.” Markets move from oversold to overbought. Currently, the market is very “richly” valued, trading significantly above its historical P/E ratio. The only way for the market to be considered undervalued would be for earnings (the E in P/E) to rise significantly – a difficult task in the near-term. The economy has rebounded, yet parts of the economy have been living on stimulus, and this is not sustainable.
Now would be a good time to re balance your portfolio, particularly long-term investments such as 401(k) and IRA accounts. Calculate your portfolio gain for 2009 and consider moving that dollar amount into an intermediate-term bond investment. Treasury Inflation Protected Securities (TIPS) may also be suitable given the outlook for higher interest rates. TIPS are becoming a common choice in 401(k) menus and are readily available on most mutual fund and brokerage platforms.
Within your equity exposure, consider moving part of the aggressive growth allocation to less volatile income-producing equities. According to data provided by Wharton School Professor Jeremy Siegel, during the period from 1970 to today, dividend-paying stocks in the S&P 500 have outperformed non-payers by nearly three percentage points annually. Consistency, consistency, consistency.
There is no way to know how long this current rally will last; but given the lessons of the past, we recommend that you prepare to become more defensive and make capital preservation your number one priority.
Charles Dear, CFP
Diastole Wealth Management
58 Boston Street
Guilford, CT 06437
cdear@diastole.biz www.dwinvest.com
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