After seven straight months of gains, the US stock market experienced a 5% decline in September. Do September’s losses signal the start of a bear market or just a minor correction in a long-term bull market? As we emerge from the global pandemic, the US economy is experiencing a dose of inflation which is beginning to look like more than just a “transitory” phase. The employment picture is unsettled as job growth slows while companies advertise a record number of job openings. Is the US returning to 1970’s style stagflation, or are these symptoms of an economy that is striving for equilibrium after being battered by COVID-19?
While these macroeconomic concerns are real and likely to persist longer than our government officials expect, as individual investors we need to make decisions about how to allocate our investment assets to achieve our personal long-term goals. Many investors are hesitant to put additional money into stocks as fundamental statistics such as the Price/Earnings ratio indicate overvalued stock prices. Most bond prices also appear to be overvalued with interest rates near all-time lows despite higher inflation. Holding more of your investment assets in cash reduces risk, but with 0% interest on most bank deposits and money market funds, any inflation is eroding the value of our cash holdings. Commodities, such as energy and food products, are potential alternatives, but they don’t pay dividends or interest. Inflation is often the result of rising commodity prices, but commodity markets are speculative and hard to predict.
For inflation-beating long-term investment gains, a significant allocation to stocks appears to be the best opportunity. But how do we justify buying at the current high stock values and feel some optimism that they can continue to go up? Part of our justification is that bonds and cash offer low return prospects and commodities are even more risky than Stocks. Also, it is hard to go against the recent trend of solid stock market performance while the Federal Reserve maintains its low interest rate monetary policy.
We also believe that changes to the economy favor larger corporations. Small businesses have faced greater challenges during the pandemic. Many stores and restaurants were forced to close to help stop the spread of COVID-19, and it has been difficult to re-hire workers as economic restrictions have eased. Large businesses are able to absorb higher costs of materials and labor more easily than their smaller competitors. Their buying power and profit margins allow them to be more aggressive, which has resulted in increased market share. Large companies often buy out their smaller competitors to concentrate their economic power. As the economy continues to recover, publicly traded company profits could grow more quickly. Anticipated higher profits help justify today’s high stock prices.
Large corporations have the strength to succeed in today’s challenging economy and their stocks provide the best opportunity for investment growth. While current high stock prices are worrisome, stocks remain a prudent investment to meet your long-term goals. Investors should still allocate a portion of their portfolio to bonds and cash to reduce volatility and meet their short- and intermediate-term liquidity needs.
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This article was authored by Christopher Borden, a financial advisor and Managing Partner located at Canby Financial Advisors, 161 Worcester Road, Framingham, MA 01701. He offers securities and advisory services as an Investment Adviser Representative of Commonwealth Financial Network®, Member FINRA/SIPC, a Registered Investment Adviser. He can be reached at 508.598.1082 or cborden@canbyfinancial.com
Disclosure: Certain sections of this commentary contain forward-looking statements based on our reasonable expectations, estimates, projections, and assumptions. Forward-looking statements are not guarantees of future performance and involve certain risks and uncertainties, which are difficult to predict. Past performance is not indicative of future results. Diversification does not assure a profit or protect against loss in declining markets. Investments are subject to risk, including the loss of principal. Because investment return and principal value fluctuate, shares may be worth more or less than their original value. Some investments are not suitable for all investors, and there is no guarantee that any investing goal will be met. This material is intended for informational/educational purposes only and should not be construed as investment advice, a solicitation, or a recommendation to buy or sell any security or investment product. Talk to your financial advisor before making any investing decisions.
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