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There is an old saying on Wall Street that “stocks climb a wall of worry.” Undoubtedly, we live during a period of worry. Worry that outsourcing to other countries is killing American industry; worry that Social Security will not be there when we need it; worry that the budget deficit will result in spiraling interest rates; worry that terrorists will strike again. With this in mind, and despite the recent run-up, investors are scared to death of stocks and would love to be out of the stock market so then they would have cash to invest!
The moral of this humorous statement is that most individuals realize that now is a good time to invest, but are too afraid to do so. This accounts for the billions of dollars of cash still on the sidelines and in risk-free investments such as Certificates of Deposit or Money Market accounts. Prior to making a decision, Benjamin Franklin, utilized the “T” method, writing the positives on the left of the “T” and the negatives aspects of the decision on the right. The result was a clearer picture of the factors impacting the decision and whether or not the positives outweigh the negatives or vice-versa. With this in mind, let us utilize this method, first concentrating on the right side of the “T,” the negatives.
The negatives include headline risk, or the risk that the company you decide to invest in announces news that negatively impacts the share price of the stock. This risk is evident in a press release by Research In Motion this past week, in essence stating that it’s revenue and earnings growth would not be up to what Wall Street expected. Headline risk may also pertains to acts of terrorism abroad that tend to move the markets and therefore your stocks.
Another negative includes the risk of future terrorism in the United States. President Obama as well as the majority of the officials in his Administration refer to the potential for terrorism in the United States as not an “if” but a “when.” We believe that this realization by investors continues to weigh down stock prices. Only time will mitigate this concern.
Corporate governance issues also weigh on the minds of investors. We often field the question, “do we own any potential Bear Stearns or Lehman Brothers.” We respond that there is very little that an investor (or a regulator for that matter) can do to completely eradicate fraud. What we can do is invest in quality companies with strong balance sheets and diversify your holdings so that one “blow-up” will not severely comproimise your portfolio.
Fundamental valuations also pose a risk to stock prices. At the conclusion of most bear markets, valuations are approximately one-half of what they are today. That said, we believe that what most of the bears are overlooking are the facts that stock valuations respond inversely to interest rates and that earnings are low due to the current state of the economy.
The above represents the right side of the “T” or the bear side of the argument. Now for the left or bullish side. First and foremost, the recovery is beginning to take hold despite the fact that approximately only one-third of the stimulus money has filtered through to the economy. Included in this conclusion are the facts that business inventories are low, the housing market is stabilizing, interest rates are low, inflation is tame and consumer sentiment is on the rise.
Another reason for the bullish side is that there exists a record amount of cash on the sidelines, both in absolute terms and relative to total stock market capitalization thereby providing potential fuel for equity prices once investors feel they can safely re-enter.
A final reason for the bullish side is old-fashioned greed. The only emotion greater than greed is fear because with fear comes self-preservation. Until recently, the bears have fed on this sense of fear. However, we now believe that the fear selling is over and we are in the midst of transitioning from fear-driven selling to greed-driven buying.
That is it. Come up with some further issues for the market to contend with. Then determine when it is appropriate for you to re-enter. As far as we are concerned, and despite the potential for a pause, one that we believe would be one to refresh, now is a very good time to put money to work. We believe that five years from now, when you look back, you will be happy that you took the plunge.