It’s Not Time to Go Bargain-Shopping Just Yet

Things got interesting last week.

For the first time in history, the S&P 500 went from a new all-time high to a 10% correction in just nine days.

In January, stock mutual funds and ETFs saw their biggest monthly inflows in history, only to see record weekly outflows in the first week of February. Investors couldn’t get enough of the stock market in January and were overcome with the fear of missing out.

Literally days later, it was a stampede to the exits.

Based on points (not percentages), the Dow has its worst ever single-day decline last week, down 1,175. And the rest of the week gave us volatility that we haven’t seen in years.

So, what now?

After a bout of volatility like we saw last week, might there be some bargains out there to be had? Let’s take a look.

The Shiller P/E – also called the Cyclically Adjusted Price/Earnrnings Ratio (“CAPE”) – is one of my favorite “quick and dirty” measures of market valuation. In order to round out the ups and downs of the business cycle, it compares current stock prices to a 10-year average of earnrnings.

The CAPE isn’t perfect, of course. It doesn’t fully take into account changes in inflation rates or bond yields, for example. But, overall, it’s a solid metric that will tell you if the market is broadly expensive or broadly cheap.

The CAPE finished January at 33.7. To put that in context, the only time in history that the CAPE has been higher was during the final year and a half of the 1990s Internrnet Bubble.

Well, as of Monday mornrning, the CAPE wasn’t meaningfully lower. At a reading of 31.7, the CAPE is still at levels only seen twice in all of history – during the Internrnet Bubble and during the Roaring 1920s Bubble.

Starting at levels this high, the market is priced to deliver losses of about 3% per year over the next eight years, according to data analytics firm GuruFocus.

Now, I don’t for a minute believe that the S&P 500 will returnrn exactly minus-3% annually over the next eight years. That’s a forecast based on historical results, and the future never quite looks exactly like the past.

But, suffice it to say, if you were licking your chops waiting for a major buy opportunity… this isn’t it.

February’s volatility has essentially undone January’s manic buying. And assuming the economy remains healthy, I think it’s likely the market goes at least marginally higher from here over the next several months.

Expensive markets can always get a lot more expensive in the short-term, particularly when the economy is strong as it is today. But this is by no means a good opportunity for a new buy-and-hold money in the stock market.

Bonds, however, are a different story. The 10-year Treasury yield is quickly approaching 3%, a level it hasn’t seen since late 2013.

Harry has been looking for these levels and considers the bonds at these yields to be “the fixed income buy opportunity of a lifetime.”

I agree.

Yields continue to creep higher, so you probably don’t need to rush into bonds just yet. But it definitely makes sense to nibble at 3%-yielding bonds when yields are barely a third of that level in most of the developed world.

Charles Sizemore

Editor, Peak Income

Charles Sizemore

Charles specializes in finding value opportunities and income plays outside of the mainstream stock market.