With the markets at all time highs, the financial media is posing the question – do you sell now?
Short and simple explanation:
1. When the media says the market, they are usually talking about the Dow Jones Industrial Average or the S&P 500 Index. Basically these are both made of Large Cap US stocks. So when they say the “market” is at all time highs, what they really mean is “US Large Cap Stocks” are at all time highs – just one part of the global equity markets.
2. There is extensive research showing there is no connection between the market hitting an all time high and the market’s future performance.
3. The “all time high” is just the nominal (not inflation adjusted) price level of the market. So there are two extremely important metrics to take into consideration. A) Inflation. If you adjust for inflation, the market isn’t at an all time high and b) Earnings ratios, or whatever else you want to use to make a relative measurement. If you are measuring by any sort of earnings ratio, the market is no where near an all time high.
4. Speaking of earnings ratios – this is the ONLY metric I know of that has any credibility as a predictor of future returns. And when I say “predictor,” I don’t mean tomorrow, next month, next quarter, or even next year. I mean that earnings ratios may give us some vague insight into what the market might return over the next decade. This is a huge maybe. The research is highly debatable and inconclusive, but if I was going to use anything as a predictor, this would be it. I certainly wouldn’t use whether or not the S&P 500 is at a nominal all time high.
Should you sell? You could sell and get lucky if the market drops. You could sell and be unlucky if the market goes up. But that is all it is – luck. If you are basing your decisions on rational analysis, then this all time market high shouldn’t change your plans at all.
Photo by David Glazner