I do agree that starting valuations have an impact on the returns an investor will generate. For example, if you paid 30 or 40 times this or next year’s earnings even for a blue chip stock like Coca-Cola (KO) or Wal-Mart (WMT), you would not do very well. This is because your initial dividend yield will be ridiculously low, and the price you paid would have all the growth for the next decade already baked into it.
In the case of Coca-Cola and Wal-Mart investors, who overpaid in 1999 – 2000, earned low returns over the subsequent decade. This was despite the fact that the underlying businesses produced stellar operating results during the same time period. In addition, one should focus on the current and future ability of the business to generate profits, and not focus on profits that were generated 5 or 10 years ago.
That being said, I can find fewer good candidates to buy today than a year ago. However, there are few alternatives to stocks today, especially when fixed income securities won’t cover even a minimal increase in inflation.
Another item I always choose to ignore are opinions from Perma-Bears. Perma-Bears are those highly intelligent analysts, who unfortunately always forecast doom and gloom. You can always find a perma-bear that would give you the reasons why stocks are going to crash by 50-80% – just pick a number. Now it is entirely possible that stock prices collapse and this triggers an economic contraction.
However, the US economy is resilient and diversified, and US policy makers have managed to step up to the plate in difficult conditions to help out. Therefore, if we are lucky enough to get a stock market crash, this would be a short term opportunity for long-term investors to load up on quality companies at depressed prices. I believe that the future will bring in more people, more innovations, and a higher standard of living for humans. I see billions of people that are going to be lifted out of poverty over the 21st century. These people are very motivated to work hard and achieve their dreams, and lift themselves out of the poverty that previous generations lived under.
Every morning, several billion people wake-up, and ask themselves how to live better lives for themselves, their families and their communities. If you believe that social order as we know it will collapse, and you are stocking up on guns, ammunition and gold, then chances are you will never be wealthy. Even at the super unlikely event that this happens, you will not do well, because the guns and gold can and would be taken away from you by a stronger opponent. Even for those milder forecasts of a mere depression coupled with stock market crashes, these occur only a few times per century. Are you willing to be wrong for 30 years in a row and miss out on a few thousand percent of gains, for the ability to predict a mere 50% crash? If you look at a long-term chart of Dow Jones Industrial’s over the past century, you would see the 1929 – 1932 crash as a mere blip on that chart.
Don’t be perma bull either. Be realist, and put money in opportunities where you stand to have a chance to make more than what you put in. Even in 1999-2000, there were pockets of opportunity for enterprising dividend investors. While difficult than a year ago, one can still find pockets of opportunity today also. You just have to look harder, and be able to capitalize on the rare selloffs.
There are some investors who have been patiently waiting for a 40-50% crash FOR FIVE YEARS, and thus have ended up missing out on the recovery. Even if stocks did crash by 40% tomorrow, their performance would still lag a buy and hold of an index fund. There are a few perma-bears, who supposedly forecasted the 1987 stock market crash. Over the past 26 years however, I think they have continued being bearish. I don’t think you should be bearish on America if you are a long term investor. I also do not understand how someone can afford to lose money for a quarter century, and still be quoted in mainstream media.
As I discussed in my article from yesterday, investors should be very careful about taking other’s opinions at face value. You need to weigh in the credibility of this opinion, against relevant facts, before making a decision of whether it needs to be taken seriously or not.
Full Disclosure: Long CL, PG, KO, WMT