Warren Buffett's Bear Market Maneuvers

Warren Buffett's Bear Market Maneuvers

Posted: Jul 12, 2009

Dan Barufaldi

In times of economic decline, many investors ask themselves, "What strategies does the Oracle of Omaha employ to keep Berkshire Hathaway on target?" The answer is that the esteemed Warren Buffett, the most successful known investor of all time, rarely changes his long-term value investment strategy and regards down markets as an opportunity to buy good companies at reasonable prices. In this article, we will cover the Buffett investment philosophy and stock-selection criteria with specific emphasis on their application in a down market and a slowing economy.

The Buffett Investment Philosophy
Buffett has a set of definitive assumptions about what constitutes a "good investment". These focus on the quality of the business rather than the short-term or near-future share price or market moves. He takes a long-term, large scale, business value-based investment approach that concentrates on good fundamentals and intrinsic business value, rather than the share price.

Buffett looks for businesses with "a durable competitive advantage." What he means by this is that the company has a market position, market share, branding or other long-lasting edge over its competitors that either prevents easy access by competitors or controls a scarce raw-material source.

Buffett employs a selective contrarian investment strategy: using his investment criteria to identify and select good companies, he can then make large investments (millions of shares) when the market and the share price are depressed and when other investors may be selling.

In addition, he assumes the following points to be true:

• The global economy is complex and unpredictable.
• The economy and the stock market do not move in sync.
• The market discount mechanism moves instantly to incorporate news into the share price.
• The returns of long-term equities cannot be matched anywhere else.

Buffett Investment Activity

Berkshire Hathaway investment industries over the years have included:

• Insurance
• Soft drinks
• Private jet aircraft
• Chocolates
• Shoes
• Jewelry
• Publishing
• Furniture
• Steel
• Energy
• Home building

The industries listed above vary widely, so what are the common criteria used to separate the good investments from the bad?

Buffett Investment Criteria

Berkshire Hathaway relies on an extensive research-and-analysis team that goes through reams of data to guide their investment decisions. While all the details of the specific techniques used are not made public, the following 10 requirements are all common among Berkshire Hathaway investments:

• The candidate company has to be in a good and growing economy or industry.
• It must enjoy a consumer monopoly or have a loyalty-commanding brand.
• It cannot be vulnerable to competition from anyone with abundant resources.
• Its earnings have to be on an upward trend with good and consistent profit margins.
• The company must enjoy a low debt/equity ratio or a high earnings/debt ratio.
• It must have high and consistent returns on invested capital.
• The company must have a history of retaining earnings for growth.
• It cannot have high maintenance costs of operations, high capital expenditure or investment cash flow.
• The company must demonstrate a history of reinvesting earnings in good business opportunities, and its management needs a good track record of profiting from these investments.
• The company must be free to adjust prices for inflation.

The Buffett Investment Strategy

Buffett makes concentrated purchases. In a downturn, he buys millions of shares of solid businesses at reasonable prices. Buffett does not buy tech shares because he doesn't understand their business or industry; during the dotcom boom, he avoided investing in tech companies because he felt they hadn't been around long enough to provide sufficient performance history for his purposes.

And even in a bear market, although Buffett had billions of dollars in cash to make investments, in his 2009 letter to Berkshire Hathaway shareholders, he declared that cash held beyond the bottom would be eroded by inflation in the recovery.

Buffett deals only with large companies because he needs to make massive investments to garner the returns required to post excellent results for the huge size to which his company, Berkshire Hathaway, has grown.

Buffett's selective contrarian style in a bear market includes making some large investments in blue chip stocks when their stock price is very low. And Buffett might get an even better deal than the average investor: His ability to supply billions of dollars in cash infusion investments earns him special conditions and opportunities not available to others. His investments often are in a class of secured stock with its dividends assured and future stock warrants available at below-market prices.

Conclusion

Buffett's strategy for coping with a down market is to approach it as an opportunity to buy good companies at reasonable prices. Buffett has developed an investment model that has worked for him and the Berkshire Hathaway shareholders over a long period of time. His investment strategy is long term and selective, incorporating a stringent set of requirements prior to an investment decision being made. Buffett also benefits from a huge cash "war chest" that can be used to buy millions of shares at a time, providing an ever-ready opportunity to earn huge returns.

For further reading, see Think Like Warren Buffett and Warren Buffett's Best Buys.
by Dan Barufaldi
Dan Barufaldi is an independent consultant associated with the management consulting and global business development firm, Globe Lynx Group, located in Lewiston, NY. He has a bachelor's degree in economics from Cornell University. Previous positions include president and CEO of Colonial Printing Ink Corporation, general manager of the Decorative Products Division of Johnson-Matthey, Inc., director of sales and marketing of the U.S. Colorants Division of CIBA-Geigy Corporation. He has also worked extensively in international business in China, the U.K., Western Europe, Canada, Sweden, Argentina and Chile. Barufaldi has authored business articles and columns in four newspapers and several Chamber of Commerce publications.


Read more: http://www.investopedia.com/articles/stocks/09/buffett-bear-market-strategies.asp#ixzz1Zmyvd1zK

How To Position Your Money For The Stock Market Rebound

 Posted: August 15, 2011 9:47AM by Tim Parker

"But there is no joy in Mudville - Mighty Casey has struck out."

You've probably read the poem Casey at the Bat when you were in school. The poem is about a baseball team that was losing by two runs as the end of the game came near. The team's star player Casey was the fifth batter in the final inning. All the team had to do was somehow make it through four batters and, if they could, Casey would be up and surely win the game for the team.

The first two batters did not reach base. The crowd and the team were low on hope, especially with the next two batters being two of the weakest on the team. Sure enough, they each got on base. With the crowd energized and cheering loudly, here came Casey. He was so confident that he would win it for the team that he let the first two balls go by for strikes. Then came the third pitch …"mighty Casey has struck out."

The stock market has made all of us feel a lot like a resident of Mudville who was at the game that day. The market goes down 600 points and all hope is taken from us. The market goes up nearly 500 points and we're reenergized. The market continues to disappoint, and your portfolio might look like a big series of strikeouts leaving you fearing for your money. When we have no economic joy, we tend to look only at the now. This causes us to make bad decisions with our money.

TUTORIAL: Investing Concepts

Do you need some encouragement? "If you bet against the United States of America, you will surely lose," said Dick Grasso, former CEO of the NYSE on August 11. "We live in the greatest country on the planet … the strength of [the economy] is going to blow your socks off," said Jamie Dimon, CEO of JP Morgan Chase. Finally, don't forget the famous words of Warren Buffett who said: "Be fearful when others are greedy and greedy when others are fearful."

The world economies may look dire, and investors around the world are worried about what happens next. Great investors never look at now. They look to the future. The only thing they do right now is position themselves for the recovery. Here's how:

Do NothingIf you have a 401(k), IRA or other long term retirement account, and you won't be retiring for decades, do nothing. Leave your money alone. History is clear. When downturns such as this happen, they don't tend to cause panic while they're here. Much like a bad storm, they leave quickly.

Even if it were a few years, that's not going to hurt your retirement accounts when you look at it in the context of a multi-decade time horizon. If you're close to retirement, you should probably still do nothing, but speaking to a financial adviser may ease your fears. (For related reading, see An Introduction to Ineligible IRA Contributions.)

Buy StocksDo you have a favorite stock? When great companies get pulled down by an economic downturn, the sale sign shows up on that stock. Buy it while it's on sale and then hold it for a long time. With many stocks down 10-20%, these stocks are priced as if they belong in the clearance bin. Buy a little now, and if the markets continue to fall, buy more at even lower prices.

Find the Accidental High YieldersCNBC's Jim Cramer advises investors to invest in accidental high yielders when the market falls. These are stocks that see their prices go down so much that their dividend yield goes up to highly attractive levels. Although this isn't a recommendation to buy these two names, Frontier Communications saw its dividend go up to 11% and Eli Lilly to nearly 6%. There are plenty of other stocks with yields that are just as attractive.

You should never buy a stock based only on the dividend yield. In downturns, great companies often become even more attractive because of their higher yields. Buy while the stock is low because the dividend yield will retreat as the stock price goes higher.

Fund Your IRAWhen the market is down, it's the perfect time to fund your IRA. That money will immediately go to work on those investments that are currently on sale. Of course, you should balance your retirement funding with protecting your finances from an economic downturn, but if you have enough money in your emergency fund put more money to work for retirement.

Get Ready to Buy an Index FundAn index fund tracks the performance of a certain index such as the Dow Jones Industrial Average, the Russell 2000 or the S&P 500. It's best to wait until the market calms down, but once it does consider buying shares of the SPDR S&P 500 ETF (SPY) or index instrument of your choice.

While this will allow you to capitalize on the recovery, you want to protect yourself. Make sure to set a stop or trailing stop so you don't lose a lot of your investment if the markets take a turn for the worse. ETFs are generally regarded as an investment for those experienced with the stock market. (For more on ETFs, see Using ETFs To Build A Cost-Effective Portfolio.)

TUTORIAL: 20 Investments You Should Know

The Bottom LineThere may not be joy in Mudville today, but successful investors know that looking at today is a losing strategy. Look years into the future, and take advantage of the low prices that are available to you. Casey may have struck out today, but never bet against a winner. His next home run isn't far away.

Read more: http://financialedge.investopedia.com/financial-edge/0811/How-To-Position-Your-Money-For-The-Stock-Market-Rebound.aspx?partner=ntu8#ixzz1VKPRMq1t

Market Behaviour: Bear Stalls

When you hear commentators say the bears are in control and the market is stalled, it's time for some serious bargain shopping.  

When this mood strikes the market, most investors run for hills and sell stock at whatever price they can get.  That;s why, as an intelligent investor, you can find some great buys.

Be careful, though.  Don't just buy a stock because you think it's cheap.  Make sure:

1.  you've tested the financial fundamentals and key ratios (sales growth rates, profit margins, market prices of assets, capital expenditure requirements, EPS, P/E, P/B, current ratio,  and operating ratios - inventory turnover, accounts receivable turnover, and accounts payable turnover.); and 
2. that you've determined it's time to exit the stock based on YOUR time schedule - not the time schedule of the crowd.  

Just because a stock is beaten down doesn't make it a good buy.

Assess the plans the management team (QVM) has for the company, as well as the numbers.

Related topics:

Market Behaviour: The Least You Need to Know
Market Behaviour: Crowd Impacts on Stock Prices

Market Behaviour: Can You Beat the Market?
Market Behaviour: Bull Runs
Market Behaviour: Bear Stalls
Market Behaviour: Pendulum Swings (Volatility)
Market Behaviour: Irrational Exuberance
Market Behaviour: Unjustifiable Pessimism
Market Behaviour: Control Yourself (Patience)

Market Behaviour: Can You Beat the Market?

The best answer to this question is, sometimes - but don't count on it.

Generally, the market does a pretty good job of pricing stocks, but when the crowd is acting irrationally, you can find your best and worst buys.

Don't try to beat the market.  

Instead, focus on building the best portfolio you can.  

Buy stocks when they're cheap and sell them when they recover.  

Do not worry about missing the highest highs because you rarely can sell at just the right time to avoid the steep drop-off when the price of a stock plummets.

MOST PEOPLE GET CAUGHT UP IN THE EMOTIONAL HIGHS THEY FEEL AS STOCKS CLIMB AND DON'T ACT TO TAKE PROFITS BEFORE IT'S TOO LATE.  DON'T GET CAUGHT UP IN THAT TYPE OF BEHAVIOUR.

Related topics:

Market Behaviour: The Least You Need to Know
Market Behaviour: Crowd Impacts on Stock Prices

Market Behaviour: Can You Beat the Market?
Market Behaviour: Bull Runs
Market Behaviour: Bear Stalls
Market Behaviour: Pendulum Swings (Volatility)
Market Behaviour: Irrational Exuberance
Market Behaviour: Unjustifiable Pessimism
Market Behaviour: Control Yourself (Patience)

When Stock Prices Drop, Where's the Money?

When Stock Prices Drop, Where's the Money?

by Investopedia Staff
Monday, March 16, 2009

Have you ever wondered what happened to your socks when you put them into the dryer and then never saw them again? It's an unexplained mystery that may never have an answer. Many people feel the same way when they suddenly find that their brokerage account balance has taken a nosedive. So, where did that money go? Fortunately, money that is gained or lost on a stock doesn't just disappear. Read to find out what happens to it and what causes it.

Disappearing Money

Before we get to how money disappears, it is important to understand that regardless of whether the market is in bull (appreciating) or bear (depreciating) mode, supply and demand drive the price of stocks, and fluctuations in stock prices determine whether you make money or lose it.

So, if you purchase a stock for $10 and then sell it for only $5, you will (obviously) lose $5. It may feel like that money must go to someone else, but that isn't exactly true. It doesn't go to the person who buys the stock from you. The company that issued the stock doesn't get it either. The brokerage is also left empty-handed, as you only paid it to make the transaction on your behalf. So the question remains: where did the money go?

Implicit and Explicit Value

The most straightforward answer to this question is that it actually disappeared into thin air, along with the decrease in demand for the stock, or, more specifically, the decrease in investors' favorable perception of it.

But this capacity of money to dissolve into the unknown demonstrates the complex and somewhat contradictory nature of money. Yes, money is a teaser - at once intangible, flirting with our dreams and fantasies, and concrete, the thing with which we obtain our daily bread. More precisely, this duplicity of money represents the two parts that make up a stock's market value: the implicit and explicit value.

On the one hand, money can be created or dissolved with the change in a stock's implicit value, which is determined by the personal perceptions and research of investors and analysts. For example, a pharmaceutical company with the rights to the patent for the cure for cancer may have a much higher implicit value than that of a corner store.

Depending on investors' perceptions and expectations for the stock, implicit value is based on revenues and earnings forecasts. If the implicit value undergoes a change - which, really, is generated by abstract things like faith and emotion - the stock price follows. A decrease in implicit value, for instance, leaves the owners of the stock with a loss because their asset is now worth less than its original price. Again, no one else necessarily received the money; it has been lost to investors' perceptions.

Now that we've covered the somewhat "unreal" characteristic of money, we cannot ignore how money also represents explicit value, which is the concrete worth of a company. Referred to as the accounting value (or sometimes book value), the explicit value is calculated by adding up all assets and subtracting liabilities. So, this represents the amount of money that would be left over if a company were to sell all of its assets at fair market value and then pay off all of liabilities.

But you see, without explicit value, implicit value would not exist: investors' interpretation of how well a company will make use of its explicit value is the force behind implicit value.

Disappearing Trick Revealed

For instance, in February 2009, Cisco Systems Inc. had 5.81 billion shares outstanding, which means that if the value of the shares dropped by $1, it would be the equivalent to losing more than $5.81 billion in (implicit) value. Because CSCO has many billions of dollars in concrete assets, we know that the change occurs not in explicit value, so the idea of money disappearing into thin air ironically becomes much more tangible. In essence, what's happening is that investors, analysts and market professionals are declaring that their projections for the company have narrowed. Investors are therefore not willing to pay as much for the stock as they were before.

So, faith and expectations can translate into cold hard cash, but only because of something very real: the capacity of a company to create something, whether it is a product people can use or a service people need. The better a company is at creating something, the higher the company's earnings will be and the more faith investors will have in the company.

In a bull market, there is an overall positive perception of the market's ability to keep producing and creating. Because this perception would not exist were it not for some evidence that something is being or will be created, everyone in a bull market can be making money. Of course, the exact opposite can happen in a bear market.

To sum it all up, you can think of the stock market as a huge vehicle for wealth creation and destruction.

Disappearing Socks

No one really knows why socks go into the dryer and never come out, but next time you're wondering where that stock price came from or went to, at least you can chalk it up to market perception.

http://finance.yahoo.com/focus-retirement/article/106739/When-Stock-Prices-Drop-Where

Related:

Focus on Lifelong Investing

Dow Theory - Market Phases

Dow Theory - Market Phases

Primary movements have three phases. Look out for these general conditions in the market:

Bull Markets

Bull markets commence with reviving confidence as business conditions improve.
Prices rise as the market responds to improved earnings
Rampant speculation dominates the market and price advances are based on hopes and expectations rather than actual results.

Bear Markets

Bear markets start with abandonment of the hopes and expectations that sustained inflated prices.
Prices decline in response to disappointing earnings.
Distress selling follows as speculators attempt to close out their positions and securities are sold without regard to their true value.

Dividend Yield

Dow believed that stocks yielding below 3.5 percent were over-priced "except there be some special reason." Richard Russell analyzed the dividend yield on the Dow from 1929 to 1959 and found that the market tended to reverse when yields had fallen to between 3 and 4 percent.

Since the 1960s the dividend yield on the Dow and S&P 500 has declined to around 2 percent. We should be careful not to leap to the conclusion that the market is way over-valued. Examine the S&P 500 chart below and you will observe that the Dividend Payout Ratio declined over the same period, from 60 to 30 percent.



Companies are retaining a higher percentage of earnings, preferring to return capital to stockholders by way of share buy-backs rather than by way of dividends. This favors investors who prefer the enhanced earnings growth offered by share buy-backs, without the tax implications associated with dividends.

We should therefore switch our focus to earnings yield, rather than dividend yield, in order to avoid any distortion. An earnings yield of below 5.0 percent would offer a similar over-bought signal to a dividend yield of less than 3.5 percent (0.035/0.7=0.05). This translates to a price-earnings (PE) ratio above 20. I use a PE ratio above 20 to signal that a bull market is entering stage 3.

Perfect Your Market Timing
Learn how to manage your market risk.

Volume Confirmation

Increased volume on declines and dull activity on rallies provide additional evidence of an overbought market. Conversely, lack of activity on declines and increased volume during rallies indicate an oversold market. See Volume Patterns for further detail.

http://www.incrediblecharts.com/technical/dow_theory_market_phases.php

Bears That Won't Go Away

Long Term Secular Bear Trends

Three Bears: The past century's worst market slumps

Interactions between Fundamental value, Market Sentiment, Business Cycle and Market Price

Bear Markets History (Graphic)

Why stay invested during market declines

Click here for an enlarged version

Stay Invested
For long-term investors, staying invested makes more sense than moving in and out of the market at the first sign of bad news.

Over the past 60 years, bull markets have lasted longer (42 months on average) than bear markets (14 months on average) and have more than made up for the periodic market declines.
Bull markets have begun during economic recessions and expansions and at all level of rates.  And while it is impossible to predict when a bull market will begin, it is possible to miss one by waiting on the sidelines.

Federal fund rates
The interest rate at which private banks lend money for overnight loans.  The Fed generally raises the target federal funds rate to slow economic growth and lowers the rate to facilitate growth.

Market in Turmoil Again

Is this a healthy correction?
Is this another bear market?
Will you be seeking for shelter?
Will you be seizing this as an opportunity to buy?

But a bear market isn't all bad news.

Sure, it can hurt when your portfolio takes a hit when stock prices fall. But you'd still better be prepared for the inevitable downturns in the stock market, and remember that the situation is only temporary, after all. In every instance when the overall market dropped, it returned and then grew to greater heights. In fact, the stock market has a 100 percent success rate when it comes to recovering from a bear market! The only thing to remember is that sometimes it takes longer for the bounce-back to occur.

If you follow a long-term approach to investing, then you know that patience is a virtue whenever you're investing in the stock market. It also helps to keep your vision focused on your long-term horizon whenever the market hits some turbulence. By using dollar cost averaging and by investing regularly, you can even make the bear market work for you by taking advantage of generally lower prices with additional purchases. Knowing the market's infallible past record, you can sleep easy -- even when other investors are panicking.

Post Bear Market Recoveries (Australia)

http://spreadsheets.google.com/pub?key=twOYrUjYPau2adIivkDDotg&output=html


Source:
The fight is on for profits
http://www.smh.com.au/news/home/business/money/investment/the-fight-is-on-for-profits/2010/01/26/1264267986069.html?page=fullpage#contentSwap2

The Bulls and the Bears

In a normal day of trading, many stocks will go up in price, while otheres will go down.

But occasionally, there's a stampede when the prices of thousands of stocks are running in the same direction, like bulls at Pamplona.  If the stampede is uphill, we call it a "bull market."

When the bulls are having their run, sometimes 9 out of 10 stocks are hitting new highs every week.  People are rushing around buying as many shares as they can afford.  They talk to their brokers more often than they talk to their best friends.  Nobody wants to miss out on the good thing.

As long as the good thing lasts, millions of shareholders go to bed happy, and wake up happy.  They sing in the shower, whistle while they work, help old ladies across the street, and count their blessings every night as they put themselves to sleep reviewing the gains in their portfolios.

But a bull market doesn't last forever.  Sooner or later, the stampede will turn downhill.  Stock prices will drop, with 9 out of 10 stocks hitting new lows every week. People who were anxious to buy on the way up will become more anxious to sell on the way down, on the theory that any stock sold today will fetch a better price than it would fetch tomorrow.

Are you strategized to gain from a correction or a bear market?

Correction:  When stock prices fall 10% from their most RECENT peak.
Bear market:  When stock prices fall 25% or more from their most RECENT peak.

Statistics:

• There were 53 corrections during the last century.
•  That is, 1 correction occurred every 2 years. (1:2)
• 1 in 3 corrections have turned into bear markets.(1:3)
• That is, 1 bear market appeared every 6 years.(1:6)

Nobody knows who coined the term "bear market."

You can make a better case for calling a bear market a lemming market, in honour of the investors who sell their stocks because everybody else is selling.

Though financial losses are linked with the appearance of the bear market, there are also those who gained from the bear market.  Are you strategized to gain from a correction or a bear market?

1929:  Papa Bear market
1973-74:  Momma Bear market, average stock was down 50%.
1982: Bear market
1987:  Crash of 1987, Dow dropped over 1000 points in 4 months; 508 of those points in 1 day.
1990:  Saddam Hussen bear market when investors worried about the Gulf War,
1997:  Asian Financial Crisis Bear market
2001:  Technology Bust Bear market
2008:  Credit crunch Bear market

Crashes, corrections and bear markets cannot be predicted exactly

Nobody can predict exactly when a bear market will arrive (although there's no shortage of Wall Stree types who claim to be skilled fortune tellers in this regard).  But when one does arrive, and the prices of 9 out of 10 stocks drop in unison, many investors naturally get scared.

They hear the TV newscasters using words like "disaster" and "calamity" to describe the situation, and they begin to worry that stock prices will hurtle toward zero and their investment will be wiped out.  They decide to rescue what's left of their money by putting their stocks up for sale, even at a loss.  They tell themselves that getting something back is better than getting nothing back.

It is at this point that large crowds of people suddenly become short-term investors, in spite of their claims about being long-term investors.  

• They let their emotions get the better of them, and they forget the reason they bought stocks in the first place - to own shares in good companies. 
• They go into a panic because stock prices are low, and instead of waiting for the prices to come back, they sell at these low prices. 
• Nobody forces them to do this, but they volunteer to lose money.

Without realising it, they've fallen into the trap of trying to time the market.  If you told them they were "market timers" they'd deny it, but anybody who sells stocks because the market is up or down is a market timer for sure.

A market timer tries to predict the short-term zigs and zags in stock prices, hoping to get out with a quick profit.  Few people can make money at this, and nobody has come up with a foolproof method. 

Does Everyone Lose in a Crash?

Does Everyone Lose in a Crash?

It’s quite common to hear someone grumbling about how much money they lost on a stock, but did you ever stop to think where that money went?

Contrary to popular opinion, that money is far from lost. In fact, that money was won by a professional trader who profited from the stock’s decline! Sophisticated traders such as these are called the “smart money” because they profit regardless if the market is crashing or booming. The smart money wins most of the money lost by the “dumb money”, or the “average joe” amateur investor. By learning how to trade like the smart money, you can profit tremendously in any type of market. Let’s learn the differences between the two types of traders:

According to the National American Securities Administrators Association, more than 70% of traders will lose nearly all their money! This is solid proof that the majority of traders and investors are dumb money.

What is the Dumb Money Doing Wrong?

First and foremost, the dumb money act as a herd or mob. This group exhibits very little individual decision making. This is exemplified by how the herd follows the financial news so religiously. The financial news is a severe lagging indicator. This is because reporters only report after the fact. It is so silly that people actually think they will gain knowledge that will allow them to have “the edge” in the markets. This isn’t possible because millions of other competing investors are watching the same news! The news is notoriously bullish right before a bear market and bearish right before the market starts soaring.

http://www.stock-market-crash.net/zero-sum.htm

One buys in a bear market and sells in a bubble.

One of the interesting differences between bubbles and bear markets is that in a bear market, there are plenty of bulls and bears. In a bubble, the few bears are drowned out by the loud and almost universal bullishness.

It is natural to like momentum and money, but if investors have no disciplines and no sense of bubbles, then they are headed not for the big money, but for quite the opposite.

With bear markets, one wants to use buy and sell disciplines and buy when prices and fundamentals would dictate that.

There are market bubbles once in a great while, perhaps once in a life-time, but individual stock bubbles are more common. All bubbles have some similarities that concern how perceptions, emotions, and a lack of accurate information combine to set an investor trap.

Long bear market for stocks not yet over

Long bear market for stocks not yet over


Equity investors can be forgiven for wishing that the third quarter would last forever.



By Edward Hadas, Breakingviews.com

Published: 3:47PM BST 01 Oct 2009



Stock markets ignored the deep recession during the last three months, rising by double-digit percentages almost everywhere except Japan. The MSCI World equity index was up 15pc.



That was enough to bring a definitive end to the bear market which started in 2007. But the long bear market for stocks – the one that began in 2000 – may not be over yet.



For the last decade, stock markets in fact have underperformed the economy. While retail prices and real GDP have risen at a 2-3pc annual rate in most countries, most indices are still at levels seen in 1998 or 1999.



Stocks were a bargain when markets bottomed in March – driven down by a combination of fear and squuzed liquidity. Now, though, the case for buying is much less clear.



The global stock market is selling at 14 times expected 2010 earnings, according to Société Génerale estimates. That is not particularly cheap by long-term standards. And those earnings expectations rely on assumed improvements in profit margins. Unless the recovery takes a sharp V-shape, earnings could disappoint and drag down stocks.



Equity investors taking the long view don’t have too much to worry about. Bear markets don’t last forever, although they can go on for a long time if Japan is any guide. The recession will not continue indefinitely. As long as deflation is averted, stock prices should be up substantially a decade from now. But that does not mean stocks will rise in a straight line from here.



Holders of government bonds, the apparently safer alternative to stocks, have much more to fear. Yields of around 3.5pc on 10-year paper leave almost no room for unexpected inflation. But with central banks and governments all pushing hard to get money flowing – including some interventions that keep bond yields down – the risk of an inflationary outburst is high.



Investors may not like the notion that stocks aren’t great but bonds look worse. There are grim periods, though, when almost all investors do poorly. Despite a few good months, this may be one of them.

http://www.telegraph.co.uk/finance/breakingviewscom/6251374/Long-bear-market-for-stocks-not-yet-over.html