Market may turn bullish soon‏

Business Times - 04 Nov 2009


Market may turn bullish soon

Because the plunge of September 2008 will not be included in most statements, turning attitudes positive, says PAUL J LIM

THOUGH stocks have soared more than 50 per cent since the market hit bottom in March, the sentiment of individual investors is hardly euphoric.

In fact, the percentage who say that they are 'bullish' today is only slightly higher than it was in the summer, when the market was much lower, according to a survey by the American Association of Individual Investors.

Yet these attitudes could change soon, but not because anything has changed fundamentally in the market. It's simply that time is passing, and the quarterly performance reports sent to investors will soon no longer highlight the worst of last year's losses.

At the moment, the quarterly brokerage and 401(k) plan statements still reflect an important time lag. Open a recent statement and you're likely to find that despite their gains of late, most of your stock investments still lost money for the 12 months through the third quarter. The Standard & Poor's 500-stock index, for example, was off nearly 7 per cent in the 12 months ended Sept 30.

Fast-forward to current figures, which won't be reflected in most printed investment reports for some weeks. Even after last Friday's losses, many numbers look much better. That's mainly because the market plunge of September last year is no longer included in them. Right now, the S&P 500 is up nearly 12 per cent from its level 12 months ago. Through last Thursday, domestic stock funds were doing even better, with gains of more than 23 per cent, on average, according to Morningstar, the fund tracker.

Investors may think that the market has improved tremendously over just the last few weeks. It hasn't. It's just that by the end of October, the market was more than a year beyond the stock market swoon that followed the collapse of Lehman Brothers. During the worst of the 2008 panic, from the start of September through Oct 10, the market lost nearly a third of its value.

People are often told that they should invest for the long run, but Greg Schultz, a principal at Asset Allocation Advisors, a financial planning firm in Walnut Creek, California, said that 'shorter time frames actually impact investor psychology more'.

'Investors aren't looking at 10 years,' he said. 'They're looking at how they've been doing over six months, nine months, 12 months.'

In the last few weeks, there have been signs that small investors are starting to view this rally as real, said Mike Scarborough, president of Scarborough Capital Management, a 401(k) advisory firm based in Annapolis, Maryland. But most of the bandwagon followers - market timers who fled stocks after last year's tumble but who now want to make a quick buck after equities have already soared - have yet to re-enter the market in droves, he said.

Mr Scarborough believes that this kind of market timing is ill-advised.

'The pigs haven't shown up yet,' he said. 'But when they do, you'll know the market is nearing a top.'

At that point, he said, he is likely to start ratcheting down his clients' exposure to equities by around 5-10 percentage points. He guesses that this will take place in January and February, when investors are likely to open brokerage statements showing double-digit gains for 2009. Those statements are also likely to show modestly positive gains for most types of stock funds over the last five years.

Barring another market swoon, investor confidence is also likely to get a big boost in March. That's when the year-over-year performance figures for stocks will move beyond the sell-off that occurred in the first quarter of this year.

If the market treads water between now and March, the one-year performance figures on March 9 will show a climb of more than 53 per cent. Without further gains, of course, people may focus on the 51 per cent gain that would still be needed to attain the levels of the market's last peak, which was reached in October 2007.

'Psychologically, a lot of people measure themselves off of the highs,' said Ronald W Roge, a financial planner in Bohemia, New York. For now, though, the danger is that the market may be entering a period of rising optimism just as the fundamentals sour.

For example, when the rally began in March, the price-to-earnings ratio for the S&P 500 stood at a modest 14, based on the trailing four quarters of operating profits. Today, that P/E is about 27.

Even if you use a more conservative profit gauge - 10-year averaged earnings, a measure that smoothes out wild swings - you find that valuations have begun to soar. In March, the price-to-earnings ratio for the broad market using these 'normalised' earnings was 13.3, well below the market's historical average of around 16. This P/E has since climbed to 19.5.

A surge in investor confidence could be a shot of adrenaline for a rally that's maturing. But if fundamental stock values are weakening, and investors pour money in anyway, the bears are likely to see this as a sign of a market top. -- NYT

The writer is a senior editor at 'Money' magazine