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Now might just be the time to fight the Fed.
Stocks have surged in the two and a half months since Ben Bernanke started hinting at more monetary stimulus. Betting against the central bank seems unwise: Bernanke says he wants to stimulate the economy by holding down interest rates, an act that tends to push up the prices of assets such as stocks.
Have we unwittingly broken out the bubbly?
Accordingly, indexes such as the S&P 500 are approaching levels last seen just before the meltdown of 2008 -- when taxpayers didn't yet own AIG (AIG) or GM, and unemployment was 3 percentage points lower.
Yet a wager that quantitative easing will send U.S. stocks steaming higher carries ample risks. Stocks look pricey by several measures, skeptics note, and a surge in commodity prices could spell more trouble for a weak recovery.
Those aren't the only pitfalls. Japan's falling stock prices during a long period of low interest rates suggests the benefits of easing could flow to the rest of the world. If that's not enough, tattered U.S. finances could send foreign investors fleeing for other shores.
"What we have on our hands right now could be a huge sucker's rally," writes Gluskin Sheff economist David Rosenberg.
Stock market bears such as Rosenberg have been warning for months that the market looks overvalued, but their caution is worth noting because of its grounding in history.
Stocks in the S&P 500 are trading at around 21 times their cyclically adjusted earnings, using a method devised by Yale professor Robert Shiller. The long-run average is 16 and purchases of stocks at a market multiple of 21 or above "have historically been followed by poor long-term returns," writes John Hussman, a value investor who runs the Hussman funds in Baltimore.
That isn't the only measure of stocks' overvaluation. The dividend yield on the S&P 500 recently dropped to 1.9%, down from 3% at the end of the free fall of 2008 and again below the historical average. Companies could bring that ratio up by boosting their payouts, but there is another way the dividend yield could rise: through falling stock prices.
Some see a problem ahead.
Other arguments against buying U.S. stocks here stem from the observation that loose monetary policy does tend to pump up asset prices â?? but not necessarily at home.
That has certainly been the experience of the Bank of Japan, which hasn't moved its discount rate above 1% for 15 years yet has seen stock and property values plunge.
The culprit there, and likely for coming years of subpar U.S. returns, is the carry trade in which investors borrow cheaply in a low-rate currency such as the yen or dollar and buy assets in higher-rate currencies such as Brazil's real or the Australian or Canadian dollars.
Stock markets in the United States and Japan, denominated in carry trade currencies thanks to interest rates that have been near or at zero in recent years, have lagged behind the rest of the world lately, notes Bianco Research strategist Howard Simons. Meanwhile those in Europe and the U.K. have outperformed the globe.
"The question of whose stock market returns you enhance with money-printing is a function of whether your currency is fuel for carry trades or not," Simons writes.
And last but not least, there is the question of whether the decision to pour more liquidity into a world already awash in dollars will, together with dysfunction in Congress, undermine the appeal of the U.S. as an investment destination.
This notion was raised last month by Richard Fisher, the president of the Federal Reserve Bank of Dallas, who raised an eyebrow at companies' increasing inclination to raise money on the cheap and then "invest it abroad where taxes are lower and governments are more eager to please."
He then added:
This would not be of concern if foreign direct investment in the U.S. were offsetting this impulse. This year, however, net direct investment in the U.S. has been running at a pace that would exceed minus $200 billion, meaning outflows of foreign direct investment are exceeding inflows by a healthy margin.
Even those who have profitably plied the don't-fight-the-Fed trade say piling into U.S. stocks now is highly risky given the apparently limited potential rewards.
"The United States is not the center of the investment universe," says Andrew Barber of investment adviser Waverly Advisors in Corning, N.Y.
He was urging clients three months ago to buy big-cap U.S. stocks at the expense of smaller ones. But he warns now to trim domestic stock exposure, saying, "The forces driving the dollar's devaluation also undermine the credibility of the U.S. as a place to put money."
THANK YOU TO CNN HAVING GIVEN ME THE IDEA OF SELLING ALL OTHERS AND BUYING THE NIKKEI! http://finance.yahoo.com/q/bc?s=EXX7.DE&t=6m&l=on&z=l&q=c&c= Nikkei capitalization/turnover=0.7 Nikkei capitalization/bookvalue=1.3 Nikkei capitalization/cash flow=6.7 (Nasdaq capitalization/turnover=3) (Nasdaq capitalization/bookvalue=4) (Nasdaq capitalization/cash flow=13)
BethR:
That line is just the mean. It's not a line representing a regression analysis. 16.4 looks about right, you cannot just eyeball it and make the assumption that it is too low.
Yale professor Robert Shiller did the calculations and his data set runs back much further than is reflected on the graph. See http://www.multpl.com/ for a more complete graph. Actually, the drop in stock prices through March 2009 had prices back near (slightly below) the historic averages. The Fed's manipulation will eventually bite a lot of folks hard.
I don't know who calculated the regression line for that 16.4 average but it's clearly way too low if it's supposed to be the average of the data in the graph. Excel or Total Access Statistics for Access (http://www.fmsinc.com/MicrosoftAccess/StatisticalAnalysis.html) should be able to do it more accurately.
Based on a higher value, the whole point of this article is reversed.
US seem to need an inflation of around 5 % , and if inflation come that high then it will benefit investment in shares; because the companies become much more competitive as the USD become weaker. So i think that a cheap USD + inflation will bring much money into the investment in production. The problem seem to be that US need to be more competitive. New jobs can be created in saving energy in buildings and industry and producing energy with suncells and windturbines. The transformation to sustainability can not be awoided so it is a good idea to start to do it now where the money is so cheap. When the shares go up wery much money is created in US. This will in itself spur the economy. Many greetings from Jacob Schonberg, Danmark
The Great FED Oz has spoken. Pay no attention to that man behind the curtain....the...Great...er...FED Oz has spoken.
Thanks to all the robotic trading systems now in place, something I should know a little about, when the markets do go south they will go south in a hurry. Think flashcrash times three or four.
Without doubt stock markets will naturally ebb & tide as the rise of inflation occurs, so this is a given, which is what foreign investors fear. Money flows out of the US have as their strongest influence the higher returns abroad. The Fed is doing what needs to be done, attempting to stimulate our economy, and with China's & India's grab on commodities the prices rising have almost nothing to do with Fed policy.
Without injecting any money, Bernanke have make that SP500 rise from 1050 to 1230 (+17%), and now the stockholders are consuming again! Bernanke will inject money first when it will be necessary, for empeaching traders to win again billions $ with PUT options! Because the trillions $ that the traders wins with PUT options are the trillions $ that the market makers loose! The G20 in Seoul should be wise to outlaw all PUT options! (buying massively to market makers PUT options on market makers stocks is a self fullfilling martingale that ruined the banks in 2008, for enriching the traders having invented this strategy...) Please Google: quadrillion derivative... http://www.pagetutor.com/trillion/index.html
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