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The Independent Adviser for Vanguard Investors
•
February 2015
•
7
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800-211-7641
say that today’s U.S. stock market is not
cheap—though whether it’s expensive
is hard to tell.
One thing we know for sure as 2015
dawns is that we can’t buy at 2009’s
low, low valuations today. As inves-
tors, we have to deal with the here and
now—stocks aren’t as cheap as they
once were.
So what’s an investor to do? In
short, if you aren’t invested or are
currently invested but have some new
money on hand (say, from a year-end
bonus), I recommend that you put that
money to work. If you are already
invested and have a long-term strategy
working for you, stick with it.
I understand that no one
wants
to
buy at a market top, but saying you
won’t invest because the market is at a
top and about to crash is plain and sim-
ple market-timing. If you can correctly
time the market, there are great gains
to be made or losses avoided—that’s
the allure of market timing—but it is
incredibly difficult to do, and I don’t
know of anyone who has done it consis-
tently. Investors’ saving grace: A long
time horizon and disciplined strategy
can overcome unlucky timing.
We’ve talked about this before, but
as the market keeps hitting highs, it’s
worth repeating. And an example is a
good way to do it. Consider an inves-
tor who had the misfortune of buy-
ing 500 Index on the Friday before
Black Monday (Oct. 19, 1987) when
the index fund dropped 20.5% in a day.
If that investor didn’t panic and sell, he
would have had a gain of 2.1% one year
later, and a total gain of 19.3% three
years later.
In the April 2014 issue, Jeff and I
wrote about an investor who had the
misfortune of buying at the market’s
peak price each year for their 30-year-
long investing career. The punchline:
This hapless investor came out alright
in the end, because time in the markets
and a consistent strategy made up for
incredibly bad timing.
Or consider the charts above of
long-term real total returns of U.S.
stocks since 1926 and 1971—those are
returns that include reinvestment of div-
idends and an adjustment for inflation.
I have broken the data in half so that
you can see greater detail in each time
period, but both charts tell the same
story. Stocks have historically moved in
a stair-step pattern, where losses occur
but are recovered and then surpassed.
As you can see, there have been some
stretches like the 1930s, ’40s, ’70s and
2000s, where stocks moved sideways.
There have also been long periods like
the 1920s, ’50s, ’60s, ’80s and ’90s,
where stocks went on to make new high
after new high without a major decline.
Notice that this stair-step pattern
applies to short time periods as well
as the very long run. The chart below
shows the growth of 500 Index (reinvest-
ing dividends) over the past three years.
500 Index returned 73.8% over this
stretch (15.8% in 2011, 32.2% in 2013
and 13.5% in 2014), but it wasn’t all
smooth sailing in a straight line—mar-
kets just don’t behave that way.
Going back to the long-term charts,
you might ask if we have entered a
period where the markets will continue
making successive new highs. I don’t
know, and no one else will know, either,
until after the fact. What I do know is
that at some point there will be another
correction and even a bear market—
guaranteed. It has been roughly three
years since we’ve seen a 10% correc-
tion, so one certainly feels overdue. But,
this isn’t something to fear. As Morgan
Housel aptly put it in a December 5
Wall Street Journal
article, “All past
market crashes are viewed as opportu-
nities, but all future market crashes are
viewed as risks.” If we recognize ahead
of time that tomorrow’s correction will
become yesterday’s opportunity, we
will be better able to weather those
inevitable corrections, and maybe even
take advantage of them.
The price you pay is important, and
given that U.S. stocks are not cheap,
I wouldn’t expect the pace of returns
we’ve seen recently to continue over the
next five years—500 Index is up 15.3%
a year over the five years through the
end of 2014. If you are looking for
cheaper stocks, many foreign stock
markets look more attractively priced
than the U.S. market. Whether you
choose to invest in U.S. stocks, foreign
stocks or both, the important thing is
that you do invest. If you don’t, I can
also guarantee that you won’t benefit
from any gains 10, 20 or 30 years down
the road. Staying disciplined, sticking
to your strategy and objective, and
spending time in the markets can over-
come unfortunate short-term timing. If
you’ve got time on your side and expect
the future to be brighter than it is today,
the time to invest is when you can.
n
Early Years of the
Stair-Step Pattern
12/25
12/30
12/35
12/40
12/45
12/50
12/55
12/60
12/65
12/70
S&P 500 Real Total Return
Peak Level Reached
0
50
100
150
200
250
300
350
400
That Pattern Continues
to This Day
12/70
12/74
12/78
12/82
12/86
12/90
12/94
12/98
12/02
12/06
12/10
12/14
S&P 500 Real Total Return
Peak Level Reached
0
500
1,000
1,500
2,000
2,500
3,000
3,500
4,000
4,500
Stair-Step Patterns Typify
StockMarket Gains
12/11
3/12
6/12
9/12
12/12
3/13
6/13
9/13
12/13
3/14
6/14
9/14
12/14
500 Index Total Return
Historic Peak
$100
$125
$150
$175
$200
Source: Morningstar, Ibottoson SBBI.
Source: Morningstar, Ibottoson SBBI.