Rocky Mountain High – Have Markets Entered Nosebleed Territory?

The eponymous John Denver song of our title came to us today as we completed the final day of our semi-annual staff retreat, which was faciliated by our Rocky Mountain friend David Brand on the same day that the S&P 500 stock index attained a new all-time high.  The Dow Jones Industrial Average, meanwhile, achieved its 10th day of new highs, a feat last seen in 1996. Staying with our mountain theme, we know some will be asking themselves: have we entered nosebleed territory? And what does that imply for our existing or new investments in the market?

To which we reply: absolutely nothing.

Our reasons are several and begin with the following points:

• These new highs have, by and large, simply returned these indexes to where they were back in 2007, more than half a decade ago.
• Market valuation levels, as measured by the price-to-earnings ratio, are not far from the long-run average.
• We are in the midst of a very slow recovery, which means we’re early in the current business cycle.  There are no visible bottlenecks in sight that might cause the kind of economic reversal that would typically be presaged by a market downturn.
• Related to the above, the economy continues to show increasing signs of strength, with improvements in the housing market being the most recent and notable.

Beyond the preceding bullet points, we must still account for the fact that a market reversal can happen at any time, driven by “profit-taking” or shifts in investor sentiment. Such things are impossible to predict, however, and attempting to do so almost always leads to unhappiness.  Back in 1996, for example, the last time the Dow had 10 consecutive record high closings, we were in the second year of impressive returns (33% and 26%) and many thought the party was over. It wasn’t.  The market continued to rise strongly for three more years and even though someone who exited the market at that time would have missed the Dot-Com meltdown of 2000, they would have still been worse off for having missed those three good years that followed 1996.

At the end of the day, and to quote from The Investment Answer, “The best time to invest is when you have the money, and the best time to sell is when you need the money.”

For our “spending” clients who are currently in retirement, such timing issues are also irrelevant.  This is because every retirement portfolio contains a stable bond reserve that acts as a cushion during cyclical downturns in the stock market.  These cushions are designed to provide a six to seven year bridge, providing stock shares with time to recover.

A final point to make is that, just as we noted that the stock market will typically forshadow economic downturns, it will also predict economic growth.  The market may, in fact, be telling us that the recent spate of positive indicators are the first of many and that more robust economic growth is just around the corner.

If you follow the long arc of history in almost any sphere of life, especially the economic, you find that optimism has been rewarded vastly more often than pessimism.