When the stock market hits new highs, it’s inevitable that the financial entertainment media feature a steady stream of market analysts presenting ominous warnings about a market correction. There’s talk about moving averages, historical trends, and charts and graphs that show some secret sauce data point that consistently precedes a market crash. It’s all nonsense.
What draws the doomsayers out of their luxury penthouse apartments is a cheap calculation. They can talk about a coming correction because corrections are a normal part of the market. If their turn on cable television is the day before a normal market correction, they look like the smartest guys in the room. In the investing game, that’s how you land the big fish; being on TV and being right the day before the market crashes. No one remembers the five years of sub-market earnings of the fund you managed after that; all they remember is you said the market was going to crash and it went down the next day, the next week, or the next month. What absolutely amazing prognostication! Step aside Punxsutawney Phil.
With that buildup, you’re certainly not primed to be impressed with my predictions for a market correction, which is inevitable. It’s true the news isn’t all sunshine and lollipops — there are good reasons to be cautious about the giddy enthusiasm of the stock market right now. But overall, things don’t look as bad as you might think from watching the financial media circus.
Hard-to-Find Value Sectors
Whether you’re hunting for value stocks or an undervalued sector for a fund investment, that search is getting more difficult. While the market is more expensive today than almost anytime in the last decade, it’s not particularly expensive compared to historical bubbles. What that means is returns in 2014 are going to be more sideways than the recent past. In times of frothy or sideways markets, my personal strategy is to shift to stocks and sector funds that pay dividends, like REITs and companies that offer a generous Dividend ReInvestment Program, also called a DRIP. It’s sometimes depressing to see a stock or fund in the red for the year, until you notice it’s still worth more than you originally put in due to the dividend reinvestments.
Small Cap Sector Not Having a Great Year
The Russell 2000, the index of small cap stocks, is lagging both the Dow and S&P 500 in returns for the year. We’ve also seen the NASDAQ take some heat but, again, it’s not that unusual because both the Russell 2000 and NASDAQ are where one tends to find the most overvalued stocks. It doesn’t take much momentum to push around small caps or tech stocks, and the NASDAQ is already coming off a near-correction earlier this month.
Riding Optimism, Not Earnings
While the market is riding high more on optimism than on earnings, there are good reasons to be optimistic. Earnings, on the historical scale, are still pretty good; not as good as the last few years, but not bad. Besides, everyone tends to forget that the US is still a consumer-oriented society. With the unemployment rate dropping to 6.3%, that’s going to put more money in the pockets of consumers. Yes, I’ve heard the talking point that the 6.3% number ignores those who stopped looking for work; but the Labor Department says three-quarters of the people leaving the workforce are over 55 and may not be looking all that hard. The long-term unemployed are not spending money anyway. Employed people are spending money and, when the competition for labor heats up, it’s inevitable that paychecks will get fatter, at least to the level of inflation. It’s okay to ride the tide of optimism when the optimism is coming from the people buying things and, right now, they’re feeling pretty good.
It’s music to the ears of working Americans, hearing corporate execs whine they can’t find qualified applicants. We all vividly remember the days of labor oversupply, when companies were arrogantly expecting interns to work for free, and companies asked rank and file workers to accept a pay cut just to keep their jobs. As the unemployment rate continues to fall, corporate America will be getting some sweet payback they desperately deserve. Karma, get some.
While a market crash is inevitable, it’s likely not going to be that big or to last particularly long. If we stay on the current trajectory, we should see a flatter but still upward economic trend through 2015. So, yes, the talking heads on cable TV are absolutely right, the market will certainly correct and there will inevitably be down days, down weeks, and even down months ahead. Big deal.