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The strength of the U.S. stock market has almost every “strategist” predicting that stocks will continue their upward trajectory this year. Most Wall Street firms employ a strategist whose primary function is to get on TV and other media outlets and predict where the stock market is headed.
If, by chance, the strategist has a few conjectures come true, he suddenly can become the hot guest on all the financial media outlets. If this jockeying for attention sounds like an attempt to gain free advertising for Wall Street firms, you are on the right track.
In the years following the credit crisis, most strategists were far too cautious in their outlook. Following their advice would have kept you underinvested in a strong bull market. Now, after stocks have more than doubled, they feel much more comfortable delivering their bullish forecasts.
As an investor, you are better served turning the channel or the dial when these folks start delivering their opinions. After all, they don’t have a crystal ball. I remember a strategist employed by the brokerage firm I worked for back in the 1980s who was also a part-time magician. At the time, I thought this a rather odd combination of vocations. Now, in hindsight, it actually makes sense. Naturally, he was a better talent at his magical sideline than he was as at forecasting markets.
So when strategists all line up as bullish on U.S. stocks, after a six-year bull market that has doubled, it might be time to look for undervalued stocks in other corners of the world. This doesn’t mean investors should get out of U.S. stocks altogether; they just need to be far more selective going forward and recognize there may be better values elsewhere.
That the United States has been an island to itself over the past two years is an understatement. The U.S. stock market, as measured by the S&P 500, has delivered a cumulative 50.5-percent return the last 24 months, exceeding most other foreign stock markets by a wide margin. For example, the S&P Developed market index excluding U.S. stocks achieved only a 10.5-percent cumulative return for the two years.
Since European stock markets have lagged with all their problems, some observers have suggested it’s time to invest there. Enterprising investors are warming up to the continent based on the massive 60 billion euro round of quantitative easing, or QE, that the European Central Bank has just begun. The thinking is that the QE will lift the value of stocks, much as it did in the United States.
Perhaps—but there are a few key differences. The QE in the United States began in 2009, when interest rates here were at higher levels. The Fed’s constant bond buying pushed bond prices up and lowered interest rates to stimulate the economy. This also helped boost the value of stocks, whose future cash flows rise in value as interest rates decline. In contrast, European interest rates are already at extremely low levels. As such, QE might not have the quite the same effect.
There is no magic to finding undervalued stocks and a chorus of bullish strategists at elevated valuations isn’t particularly comforting. Instead, look for value where others aren’t, turn over stones, take plenty of time to read and think.•
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Skarbeck is managing partner of Indianapolis-based Aldebaran Capital LLC, a money-management firm. His column appears every other week. Views expressed are his own. He can be reached at 818-7827 or ken@aldebarancapital.com.
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