By Tom Bradley

I don’t believe in trying to precisely time the market. For our clients’ portfolios, and my own, I strive to be approximately right, as opposed to exactly wrong.

Having said that, last fall and early this year we were as aggressive as we’ll ever be in pushing clients to do some buying, either by re-balancing or making an RRSP contribution. We felt strongly that the market declines were overdone and values were compelling.

So after a huge rise in the equity and credit markets, where are we today? Before I try to dodge the question, let me provide some perspective.

  • This crisis was caused by excessive use of debt. The process of correcting that problem has not yet started in any meaningful way. Consumers are still being encouraged to borrow and spend (which they are) and governments are levering up their balance sheets at an unprecedented rate.
  • Corporate earnings are down, but there are still two directions they can go from here. They could show improvement compared to last fall’s reduced levels, which would please the markets, or they could head lower as the companies run out of room to cut costs and the slow economy grinds on. We shouldn’t be surprised by either outcome.
  • 15,000 on the S&P/TSX Composite Index (July, 2008) is not a number we should get anchored on. The last two years revealed that level to be a debt-inflated bubble which couldn’t be justified by business and economic fundamentals. We also shouldn’t get anchored on 7,600 (March, 2009). It was an equally false low, this time fueled by concerns of a capital markets meltdown. Comparing today’s market level (roughly 11,400) to either number is not very useful, whether it’s to say, “I’m buying because we’re still well below the old highs” or, “We’re up more than 50% from the lows...I’m bailing out”.
  • There is lots of talk that investors have a renewed appetite for risk, but I don’t agree. I think professional and amateur investors are still wary of the economy and the potential for a return to volatile markets (read: down). I think investors were just starved (under-invested) and had to eat something.
  • There will be lots of surprises over the next couple of years. Perhaps China will disappoint as it deals with the hangover from its spending binge. Or the downtrodden U.S. and/or Europe will show more life than people think.

Investors have plenty to consider in trying to figure out which way the market is going from here.

Stocks have moved up from extremely cheap levels, but valuations don’t look overdone. Some stocks are no longer bargains, but the portfolio managers I talk to are finding others with price-earning ratios of 12-13 times. To me, high quality stocks still look to be under-priced – a view shared by most of our fund managers and our favourite analyst, Jeremy Grantham at GMO.

As for corporate bonds, yields have come down a long way (which has translated into great returns), but the gap versus government bonds is still well above historic norms. Further spread reductions would translate into capital gains, but we don’t need that to happen for the returns to be attractive – i.e. we can justify holding corporate bonds based on their yield (5.5-8.0%).

At this point, it feels a lot to me like the Stealers Wheel song from the early 70’s - we’re Stuck in the Middle (With You). We’re in the middle of possible economic outcomes, the middle of the valuation ranges, and somewhere near the middle on the ‘Greed versus Fear’ meter. That’s not to say we couldn’t have some meaningful moves from here. In a market that is still over-leveraged, the range of possible outcomes for equities is still wide (+/- 20%).

If we learned anything from the last six months, it should be that markets are totally unpredictable and impossible to call in the short run. So while there are “clowns to the left of me and jokers to the right” who are making pronouncements about where we are going from here, we’re happy to have our clients in the middle of their long-term asset mix range, focusing firmly on the longer term.