Speculation has been rife for months that a correction in the stock market is imminent, even as earnings keep coming in better than expected. Investors who delay getting in or those who sell in the hope of buying back in later at lower prices risk are going up against improving fundamentals and quite reasonable stock valuations.
Stock prices have recovered sharply off the March 9 2009 lows, suggesting to some strategists that a 10% correction could begin at any time. This line of reasoning fails to put the market’s performance into context. The March low was established in an environment of abject fear. It was a downside bubble and not sustainable. Investors, quite understandably, worried that the financial system could have collapsed and might precipitate a depression. So investors bailed despite how cheap stocks had already become. Once it became clear that their worst fears would not materialize, the upside was dramatic and stocks recovered very sharply.
Right now, the stock market enjoys vastly more upside than downside potential. Many investors did not buy into the market recovery and missed the rally entirely. They are still sitting in cash. Astonishingly, retail investors have a totally inaccurate and distorted view of the equity market. In a recent survey of investors, Franklin Templeton discovered that 66% of investors believe that stock prices were flat or declined in 2009!
As a consequence, cash is still pouring into bond funds, even though close to 78% of professional investors are bearish on Treasuries and 1% are bullish, according to the latest Barron’s big money poll. In fact, many retail investors are wary that interest rates may rise, but they don’t know where else to invest. This suggests that there is still a lot of money that could come out of bonds, bank deposits and money funds and into stocks, but especially out of bonds.
Stock valuations are still reasonable and they are getting cheaper, despite the market rally. Profits are rebounding strongly and economic growth is still in the early stages of an expansion. With unemployment still at 9.7%, the economy and corporate profits have considerable upside and it will take some years for the economy to revert to a normal level. Any slide in stock prices would provide an opportunity for investors who have missed the rally a chance to get in, which implies only limited downside for stocks at this time.
This should be another strong year for stocks. Perhaps then investors will realize they missed another investment opportunity.
Disclosure: No positions
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