I’ve written frequently about my concern about today’s stock prices.
I believe stocks are now so expensive that they will likely deliver crappy performance over the next decade. I also believe that there is a decent chance of a 40%-50% crash in the next couple of years.
This view is based almost entirely on valuation: According to most historically valid and cyclically adjusted pricing measures, stocks are at least 50% overvalued, and I don’t think it will end up being “different this time.” I described the facts underlying this view in detail here.
I have also said that, despite this concern about stock prices, I am not selling my stocks (not yet, anyway). One reason I’m not selling is that valuation is almost useless as a timing indicator: Stocks could go a lot higher before they drop, especially if the Fed keeps frantically pumping money into Wall Street. Another reason I am not selling is that no other major asset classes are attractively priced, either, so there’s nothing else I want to buy.
Cash yields nothing, and bonds yield almost nothing, and the latter contain significant embedded risk from inflation.
So the investment opportunities for financial assets these days are just plain lousy.
According to data and projections compiled by one analyst, John Hussman of the Hussman Funds*, projected financial performance for a diversified portfolio of stocks, government bonds, corporate bonds, and cash is the lowest it has ever been, at least since 1948.
How low is that?
About 2% a year.
That’s right. The prices of stocks, bonds, and cash are so high today that a diversified portfolio of them is priced to return only 2% a year for the next 10 years.
That’s including inflation, by the way. After inflation, the portfolio is likely to lose money.
The blue line in the chart below is the projected 10-year return for this blended portfolio. The red line is the actual 10-year return from each point (the red line ends 10 years ago, obviously).
For those who are counting on returns of, say, 10% a year to pad their retirement accounts over the next decade, that’s bad news.
Here’s the good news, though. If I’m right about the likelihood of a significant drop in stock prices over the next couple of years, you’ll have the opportunity to move cash into the market at much lower prices. And those lower prices will give you a much greater likelihood of earning a decent long-term return. In the meantime, keep your long-term return expectations in check…
* Yes, I know. John Hussman of the Hussman Funds made a cautious investment decision during the financial crisis that caused his funds to miss much of the stock rebound that followed. As a result, everyone now thinks he’s an idiot and that no one should listen to a word he says. Don’t be one of the people who thinks he’s an that. John Hussman’s recent performance does not undermine his valuation analysis. Unless it’s “different this time” — unless a century of valuation measures that have always been predictive in the past have suddenly been rendered worthless — John Hussman will be right in the end. And those who are ridiculing him will look and feel like bozos. (And if you’re just so convinced that Hussman is an idiot that you can’t listen to a word he says, then listen to Jeremy Grantham instead. He’s saying the same thing: “The next bust will be unlike any other.“)
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