Knowing how to invest when markets are fully valued

Allen Wisniewski

People generally like to have a good deal when making purchases.  Oftentimes a good deal is more perception than reality.  Retailers frequently have inflated list prices, only to have a “sale” to bring items back to a more appropriate price point.  Likewise for investors, finding attractively priced assets is a reasonable objective.

When surveying the investment landscape today it is increasingly hard to find bargains.  This is true whether someone is considering stocks, bonds, real estate, or money market funds.

In addition, even within specific asset classes it is difficult to find deals.  For example, in late 1999 and early 2000 the overall stock market was considered to be quite expensive.  This was when technology and very large companies were trading at extremely high valuations.  However, there were still many parts of the market reasonably priced, such as utilities and energy stocks.

In the current market environment stocks overall are not as expensive relative to their underlying earnings, as they were in early 2000.  However, we do not have sectors of the market for the most part that are priced significantly different relative to one another.  In other words, it is much more difficult to find mispriced securities at this time.

Likewise in the fixed income market there is little to be found that would be considered attractive.  Money market yields remain near 0, though possibly next year they may start to rise.  Among longer term securities yields remain far below historical averages.  Corporate and high yield bonds offer only modest yield premiums relative to safer U.S. Treasuries.

Emerging market stocks were relatively inexpensive earlier in the year, but have had a good rebound in recent months.   European markets are relatively cheaper versus the U.S., but their economies on an overall basis are barely growing.

Given the environment I have just described some might think there is no point of even investing.  I think a better approach to take would be for people to temper their expectations.  We have had a very strong stock market in recent years, so strong gains are not likely to be repeated.

What investors need to do is to continue to take a longer-term approach to investing.  Obviously when prices are higher you do not want to be too aggressive in terms of initiating new positions.  If someone has excessive cash reserves, that individual can gradually invest over a period of time.

The present environment also implies the need not to be too aggressive in purchasing risky assets.  If your normal target is to have 60 percent in stocks, and you are already at that level, you do not need to purchase more.  Likewise investors in bonds looking for more yield might be tempted to go more into junk bonds.  However, when the added yield on junk bonds is relatively low, you are not being adequately compensated for the additional risk.

Now is the time for investors to stay rather close to their long-term targets.  When one asset class is relatively inexpensive you would want to hold more of it.  Because there do not appear to be great bargains at the present time a well-diversified portfolio should be utilized.  This would include some holdings of international funds.

It is always tempting for some investors to want to have large cash holdings.  These people tend to think markets are either too expensive, or too risky. Unfortunately few can time the market well enough to know when to get in or out of cash. While there do not appear to be any great bargains in the market at the present time, the prudent course would be to maintain normal investment positions.