Bear Rally versus New Bull May 11, 2009
Posted by Andy Robinson in : Uncategorized , trackbackSince March 9th we have witnessed an explosive 37.5% rally in the S&P 500 index on renewed optimism that economic indicators are declining at a slower pace, and that the US is poised to return to growth before the end of 2009. While this may in fact may pan out to be true, the dramatic rally has increased the inherent risk in owning stocks by making them no longer cheap. Historically, we see price to earnings multiples in the high single digits when a bear market has run its course during a recession. Based on analysts’ current earnings projections of $57.17 for the S&P 500 in 2009, we would currently be paying 16 times earnings for the index (which is about the historical average). Buying stocks at an average multiple for what looks like below-average growth potential for at least several years to come appears foolhardy.
My recommendation at this point is to take advantage of the market’s recent move to increase cash (the appropriate level to hold would vary based on individual circumstances). While it’s certainly possible for us to keep rallying, perhaps even as far as 1100 over the near-term, history indicates that we can expect cheaper stock market prices than current levels. It would be prudent to raise some cash while maintaining some market exposure. If the S&P 500 falls below 800, reinvest some that cash we raised now; if we fall below 700 consider reinvesting more. This article takes an interesting look at two previous bear market bottoms in 1932 and 1974. It’s worth appreciating exactly how brutal and lengthy bear markets can be.
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