Greetings!
Here is your Market Update for September 2011, along with a short piece which provides some context for portfolio risk and investment policy in the current market environment.
I will be sending out the Milestone Quarterly Investment Report next week. In the mean time, I look forward to seeing you at our quarterly review meeting.
To provide a friend with an electronic issue of this edition, please click on the button below.
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| September Market Update |  The roller coaster ride that began in July with the exasperating debt ceiling negotiations, accelerated with multiple 300, 400 and 500 point daily swings in August, and concluded this last month with an increased focus on the Euro zone and a 14.3 decline for the broad market, is now behind us.
As the fourth quarter gets underway, let's take a look at the cases to be made for improvement or exacerbation as we head toward the end of the year and look towards 2012.
Those looking on the bright side are pointing to relatively low stock valuations and excessive market pessimism as the cornerstones of an argument for higher prices. The S&P 500 is traversing a range of 1100-1200 with most analysts forecasting earnings of $100-$110 for the next year. This is a modest valuation in historical terms and is a far cry from the multiples of greater than 20 that have characterized major market tops in the past. In other words, the bulls believe that currently stocks are attractively priced.
Additionally, market optimists find solace in rising earnings reports. Notwithstanding ongoing worries about corporate profits tied to the weakened U.S. economy, earnings for the S&P 500 are on pace to achieve all-time highs in 2011. They will have a close eye on the earnings season that begins in the next few weeks, watching for any signs that might suggest that U.S. businesses have adjusted to present conditions, and that the upward trend in quarterly profits will continue.
Lastly, the bulls are finding hope and promise in the technical indicators. The Investors Intelligence percentage of bullish investment advisors has been under 40% for four weeks in a row, which as a contrary indicator signals excessive market pessimism, which suggest the market may be nearing a turning point.
Not surprisingly, the bears have a different view. At the top of their list is the European sovereign debt crisis. They believe that the restructuring of Greece's debt carries a risk of contagion to other European Union countries (primarily Spain, Ireland and possibly even France), and they contend that such a default, if it occurs, would dampen the growth outlook for the Eurozone and its trading partners, including the U.S., with negative consequences.
Additionally, with the unemployment rate stuck at 9% and new job creation stalling or possibly reversing course, they question the strength of the consumer sector which makes up approximately two-thirds of GDP. As a result, they claim that earnings expectations, valuations and economic forecasts are too rosy.
The truth is that in spite of the probable accuracy of any number of these forecasts, a discussion of bulls vs. bears seems almost quaint. A bull or bear market connotes an actual trend, a true direction and some measure of momentum, whereas the more accurate feeling right now seems to be one of uncertainty, ambiguity and ambivalence.
Be that as it may, your portfolio is unique in that it is not (and never has been) strictly managed around economic forecasting and market prognostication, since we hold these methodologies to be inherently flawed as a strategic plan.
Rather, your accounts are governed first by determining the appropriate exposure to the "risk premium" (see article below) and subsequently factoring in inflation protection, the desire for safety and the need for income. It is then invested and maintained according to a scientific approach based on structure, balance, efficiency, and discipline.
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| The Risk Premium |  Investors are notoriously bad market-timers. Naturally we become more risk-averse after our portfolios have experienced a shock, and then we tend to accept risk again only after the crowd tells us the coast is clear. This often leads to sub-par performance when compared with buy-and-hold investors.
Given that 20 of the 40 most volatile days in the market over the past 30 years have occurred in the past 36 months, it is no mystery that investors have exited equities for bonds and cash at an alarming rate over the past few years. Yet this is happening at a time when the dividend-yield gap over bonds is at its most appealing levels in fifty years.
At this writing the S&P index is at 1,130, about 17% lower than it's most recent peak in April 2011. But this includes about $290 of cash on company balance sheets. Forward-looking earnings estimates of $113 give the index a very low price/earnings ratio of about 10.5. When compared to ten years ago, when the index was at around 1020 with roughly $100 in cash and a P/E ratio of 27, U.S. equities are at a much better starting point today than they were a decade ago.
Let's now apply this to your Schwab accounts. One of the reasons that Milestone portfolios perform favorably against the S&P 500, is their focus on mutual funds which seek stocks that are often less dependent upon economic growth to justify their valuations. We thus remain full participants in the equity markets while focusing on investments with low underlying volatility, steady income production, and sustainable competitive advantages.
Nevertheless, if current market volatility has become too much to endure, the first step is to revisit your investment policy statement (IPS) to determine if your current level of investment risk tolerance is consistent with the last update, because it may not be. In this way we can be sure that your portfolio reflects a true measure of your current financial attitudes and circumstances.
If you have not done so in the past year, I encourage you to contact me to request an IPS review, which we can accomplish at our next meeting.
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Milestone Financial Advisors, LLC
Ten Key Portfolio Considerations: |
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- Reduce Expenses
- Diversify Systematically
- Seek to Reduce Taxes
- Think Long Term
- Maintain Discipline
- Maintain Prudent Cash Reserve
- Own Low Cost Funds
- Maintain Asset Allocation
- Add to Portfolio Systematically
- Connect Goals to Investments
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