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2019 Q3 Newsletter

“I am not afraid of heights. I am afraid of falling.” Laurell K. Hamilton

Back in January, after enduring the sharp—albeit brief—Bear Market of 2018, financial journalists were encouraging investors to abandon equities due to uncertainties over the trade war with China, a slowing global economy, and sluggish earnings. However, despite heightened volatility in January, in June, and again in August, the S&P 500 managed to close the third quarter within striking distance of its all-time high. Rather than admit their advice was wrong, the doom-and-gloomers have adopted a new narrative, encouraging investors to flee equities because the market is near an all-time high. Yes, you read that correctly. The message “Sell because the market is down” has now morphed into “Sell because the market is up”. Where do I begin…

New market highs are nothing to be feared. After all, even a cursory glance at a long-term stock chart reveals that new all-time highs are much more the rule than the exception. In fact, the S&P has reached a new record high in the majority of calendar years since its inception.

More important, the S&P 500’s current level means absolutely nothing in and of itself. As with any valuation measure, it has meaning only in relation to what the buyer receives in exchange. According to Yardeni, the 505 companies that comprise the S&P 500 are expected to generate earnings of approximately $176 per share over the next 12 months. Thus, at the current price of approximately 3,000, the S&P 500 is offering a 6% “earnings yield”, just a tad lower than its long-term average. Would any rational investor argue against the logic of accepting a 6% return in current earnings (the primary driver of both capital appreciation and dividends), plus all future earnings growth, all taxed at favorable long-term capital gains rates? Especially when their primary alternative (bonds) are currently offering only 2% in permanently fixed income taxed at much higher ordinary income tax rates?

If these commonsense arguments aren’t enough, some fellow data geeks at UBS recently crunched the numbers dating back to 1945, to examine the real-world results of entering (or staying in) the S&P 500 after reaching an all-time high.* Consider the following:

  • In roughly a third of cases, investors never saw their investment dip below their entry point.
  • In almost 60% of cases, investors never experienced greater than a 5% dip below their entry point.
  • In only 15% of cases did investors experience a decline greater than 20% below their entry point.
  • Investors entering in the market at an all-time high actually experienced higher odds than those entering at any perfectly random entry point!

It turns out that for every 1973, 2000, or 2007—when a new all-time high was a precursor to a substantial decline—there were many more 1982s, 1992s, 1995s, 2013s, and 2016s, when investors were richly rewarded for investing at new all-time highs that turned out to be merely the stepping stones of a much larger and longer uptrend.

Of course, as lifetime equity investors focused on accumulating real wealth for ourselves and those we love, we make no attempt to distinguish between good or bad times to enter the market. We simply Ignore the Noise of the media, rigidly adhere to our globally diversified equity portfolios, and accept each pullback and new high as the perfectly rational price we must pay to enjoy permanent long-term gains.

Don Davey
Senior Portfolio Manager
Disciplined Equity Management
Plan Appropriately, Invest Intelligently, Diversify Broadly, Ignore the Noise

*https://www.ubs.com/global/en/wealth-management/chief-investment-office/market-insights/house-view/daily/2019/all-time-highs-dont-mean.html



2019 Q3 Market Index Returns

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