The one thing you can always be sure of in investing is that waiting for the all-clear signal that the economy and the world is fine is to invest when its too late. Several times Warren Buffet has stated that his best buys were during times of fiscal or monetary stress.
If you consider the present market valuations with the SPX at 1233 and 2012 earnings estimates presently at $108 this translates into a market selling at 11.5 times 2012 earnings. 11.5 is very good considering we’re not going into recession anytime soon and the historical average is a market selling at 15 times earnings.
Does this mean there is significant upside? Yes there is but it also means you have to have the stomach and nervous system to close your eyes and ears to the Cassandra’s and their calls for worldwide crisis. Keep in mind the crisis is primarily in Europe and calls for investment calamity rarely work. Its my guess that the Europeans will eventually isolate and put their crisis to bed but it will be a slow and gradual process, not a swift stroke that defines a solution.
There is another market factor that I maintain a closely kept eye on……..my own state of nervousness and apprehension. Rarely have I ever been this nervous and in previous cases my state of uneasiness is usually associated with market bottoms. I can’t even go on a vacation to a beautiful island with my incredible wife without keeping an eye on my stomach churning along with the markets. Needless to say, its pretty pathetic.
What causes me the greatest stress is the lack of traction by our value oriented small cap holdings. At present large stocks are making more net progress with little progress if any by small caps. While I’m sure this is a temporary situation it still causes me a great deal of angst.
My interpretation of this action is that investors have deleveraged away from investments that provide Alpha. In English, this means investors have sold and continue to avoid investments that normally do much better than the S&P 500 over time in an effort to avoid almost all kinds of risk. While the popular theme to buy a Treasury bond yielding just under 2%, they avoid a steady 10% grower paying a 4% or more dividend as in Cedar Fair LP FUN or Tessco Technology TESS.
One nagging question that plagues any investor using quantitative strategies is: Has your model simply lost its effectiveness? I’ve given this serious thought but our models are relatively simple in construction so “curve fitting” (creating the model to have capitalized on the near term past) is very unlikely. But I also monitor close to 50 models on a daily basis and there is a trend. The trend is away from small to mid size companies. I actually take a small degree of comfort in this since it means this phenomena is very likely to be a short term cyclical issue and not a long term signal. In addition, since small companies tend to focus primarily on the US they avoid what may be a severe recession in Europe that large cap companies with overseas revenues will be exposed to.
All the best,
Brad
Long FUN and TESS