Thus far in 2013, the blue chip Standard & Poor’s 500 index is up 6.4 percent. And it’s hardly the only US stock index in positive territory.
Despite a steep slide in Apple (NSDQ: AAPL), the NASDAQ 100 index is up 4.5 percent year-to-date. The dividend oriented Dow Jones Utility Average is ahead by roughly 5 percent as of Friday’s close. Best of all is the Alerian Index of master limited partnerships, which is currently sitting on a 12 percent total return.
These gains are in part a reversal of end-year 2012 weakness. Many investors sold then in expectation of an economic disaster from a potential fiscal cliff, or to avoid a sharp increase in taxes starting this year as George W. Bush-era rates went into the sunset. And when neither happened, they came back to the market, largely wiping out fourth-quarter losses.
Year-to-date returns, however, also come on top of what’s been four years of the best stock market returns in history. And with global inflation subdued, the worst potential austerity out of the picture and many companies at their healthiest in decades, there are plenty of reasons to expect stocks to go even higher this year. Gains could be particularly strong if money that’s been largely out of stocks since President Obama’s 2009 election decides to come back in.
When that does start to happen, I expect to become particularly cautious. And we’ll likely pull back on some of the more aggressive positions in the Personal Finance portfolios and focus more on cash. In fact, cash and cash-like investments are a growing theme for upcoming issues of PF.
At this point, however, it’s hard to argue the irrational exuberance characteristic of real tops is anywhere in this market, except perhaps in bonds. Rather, money has poured into investments deemed by the consensus as “safe,” which includes bonds of all stripes and some mutual funds, but relatively few stocks.
That last point is crystal clear from the reaction to calendar fourth-quarter earnings announcements we’ve seen, which is basically an extreme negative reaction to anything deemed disappointing. Pessimism was also my number one takeaway from the Orlando MoneyShow, easily the biggest general investing event of the year.
All many attendees wanted to talk about was the worst case, i.e. what would happen to their stocks if an event even worse than 2008 were to strike. And no doubt reflecting the popular financial media, there were myriad reasons given why such a calamity is inevitable, from a complete collapse of the US dollar, to government spending to over production of oil in North America.
One characteristic of aging bull markets is narrowing of breadth. That is, the number of stocks making new highs starts to stall even as the averages push higher on the backs of a few favorites. When that does happen, it becomes relatively harder to pick winners, and eventually expectations are so high they simply can’t be met. The market drops and the cycle begins anew.
We have seen some notable blow-ups in 2013, just as we did in 2012. With the possible exception of Apple’s slide, however, these were mostly due to challenges at individual companies that are still struggling to deal with a tough economic environment. It wasn’t that these stocks were unable to meet a high bar of expectations, but that tough conditions forced them to fail to hurdle a low one.
In addition, the fact that so many people are talking about an inevitable or even imminent calamity almost certainly means we’re nowhere close to that now. Epic events such as the Great Financial Crisis of 2008 are rare rather than commonplace.
Once disaster strikes, all the players take steps to cut their exposure to a future one. The 2008 crash and credit crunch were as bad as they were because so many people were leaning bullish when it hit, so the leverage crushed them. Confidence quickly turned to abject fear and panic and prices of even solid and trusted stocks fell 10 percent in a day and more.
In contrast, you’d have been very hard pressed to find anyone bullish at the MoneyShow last week. Virtually everyone—at least those who asked most of the questions—was playing defense, not offense.
And the same sentiment is reflected throughout corporate America, where companies have used generation-low interest rates to strengthen balance sheets rather than invest in growth. Even regulated utilities—which have virtually guaranteed sales and need only win approval from regulators to recover system investment—continue to be generally cautious. And everywhere energy companies are retreating from “margin based” businesses where profits depend on energy prices, and investing in fee-based business where profits do not.
I’ve pointed out the record levels of corporate cash in this column, both as evidence of management caution, and as a reason why US economic growth could prove a lot rosier going forward than almost anyone expects as this money is eventually invested. But cash mountains are also solid bulwarks against a further downturn in the economy and markets, as well as a sudden tightening of credit conditions.
Even the dividend cuts we’ve seen in some sectors reflect this consensus of caution. For example, PF Income Portfolio pick Exelon Corp (NYSE: EXC) operates in the relatively stable electricity sector. Yet it chose this week to act proactively against the possibility of more weakness in wholesale power prices by taking what would have been an extraordinary step in a normal market—cutting its dividend by 41 percent. And investors seemed to agree it was entirely correct to do so, as the stock has actually risen a bit since the move.
The clear implication is people are worried as rarely before, despite a four-year bull market that’s apparently continuing into 2013. Bear markets never begin with such rampant fear. In fact, bull markets often begin that way, because the bar of expectations is low and easy to beat.
Again, given how far stocks have come since the 2008 crash, it’s hard to argue this is the beginning of anything. But you’ll rarely if ever see a better reason for staying invested in stocks than the worry around us now.
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