by Robert Powell
It would be easy to join the herd investors who, say some, are overreacting to the news of the day by selling stocks and buying bonds. The harder thing to do now, especially in the face of political uncertainty in Europe and economic weakness in the U.S. and elsewhere, would be to buy stocks.
“For investors, the financial environment is both uncertain and stressful,” David Kelly, the chief market strategist at J.P. Morgan Funds wrote in his report this week. “However, given the extraordinarily stretched nature of relative valuations, the best advice should be at a minimum to remain balanced rather than indulging in the now all-too-routine palliative of selling stocks and buying bonds.”
Relative pricing of Treasuries to stocks
According to Kelly, there are several reasons to consider buying stocks now, one of which is the relative pricing of Treasuries and stocks. “As of the close of business on June 1, the 10-year nominal bond yield was 1.47% while the earnings yield on stocks (using a broad-market lagged P/E ratio) was an estimated 8.95%,” he wrote. “By this measure, stocks are cheaper relative to Treasuries than at the end of any quarter in almost 60 years.”
Kelly’s comments got us thinking. Are there other reasons to invest in stocks right now? What case can be made for putting money in risky assets? Well, here’s what some bulls—many of whom we might note say such things for business reasons—had to say:
Macroeconomic backdrop strong
Bob Doll, the chief equity strategist for fundamental equities at BlackRock, who just this week announced his retirement at the end of this month, wrote in his weekly report that the macroeconomic backdrop today is stronger than it was during the growth scares of 2010 and 2011. “For one, the global policy easing cycle is in full force now, with the world’s major central banks much more responsive to deflationary concerns then they were in the past,” Doll wrote. “Additionally, we are starting to see improvements in the U.S. housing market (an important distinction compared with where we were in the past) and the inflation picture also appears milder.”
Leading, coincident indicators suggest a higher S&P 500 Index one year out
Meanwhile, Stuart Freeman, the chief equity strategist, and Scott Wren, the senior equity strategist, at Wells Fargo Advisors, said investors with an intermediate- to longer-term investment time horizon should consider accumulating stocks, especially cyclically sensitive and defensive issues, on weakness.
“Leading and coincident indicators suggest a higher S&P 500 index one year out,” Freeman and Wren said in a recent missive. Freeman and Wren examined the Conference Board’s Composites of Leading Economic Indicators (LEI) and here’s what they found: The percent change in the LEI over the past year (through April) was 1.92%.
The average change going back to 1970, meanwhile, is 1.94%. And, if you look at the eight times the LEI increased 1.92% since 1970, what you find is this: The S&P 500 has generated an average return of 12% and a median return of 15.9% over the course of the following 12 months.
In fact, seven of the eight instances represented positive return conditions, Freeman and Wren wrote. The authors also found similar and bullish signs when looking at the Conference Board’s Coincident Economic Indicators.
Given that and other reasons, the firm is recommending overweighting the following S&P 500 sectors: consumer discretionary (13.3% vs. the S&P 500 weighting of 11.3%); information technology (23.5% vs. 19.7%), telecom services (4% vs. 3.1%); and materials (5% vs. 3.4%).
For the record, Freeman and Wren said on May 30 that the S&P 500 index will end the year in the range of 1,400 to 1,450, which is about 13% higher than its current level.
Volatility is here to stay
While the market is now lower and implied volatility is higher, fundamentals have deteriorated to such an extent that further downside is possible, Russ Koesterich, the global chief investment strategist at iShares, wrote in a recent commentary.
Given that, investors will want to maintain a defensive stance in the coming weeks by increasing their allocation in dividend-paying stocks, he wrote. Among the reasons: dividend stocks have been generally less volatile than the broader market.
Strategic asset allocation
It is quite possible that the percent you’ve invested in stocks - given what’s happened to markets this year - is now below your target asset allocation. That’s why Bob Pugh, CFA, CFP of Insight Wealth Management, is investing in the stock market right now. “I’m buying equity investments now to maintain strategic asset allocation targets,” he says.
For the record, Pugh isn't investing in stocks any of his clients’ assets that will be needed in less than five to 10 years for retirement income or any other purpose.