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Strategies & Market Trends : The Residential Real Estate Crash Index
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To: Elroy Jetson who wrote (3772)7/31/2002 5:47:10 PM
From: GraceZRead Replies (1) of 306849
 
When comparing the returns on different type of assets, the factor that needs to be controlled is RISK.

Absolutely, one expects a higher return for the stock portfolio in view of the risk level. Unfortunately investors in the 90s tended to pay a premium for what they viewed as lower risk (high PE growth company stocks) pricing away return to the point of negative returns as in your example of the drug companies. The more appropriate engagement of risk would have been to invest in value stocks but the two classes diverged and growth out performed value for so long that even previously prudent investors got sucked into buying high with the hopes of selling higher to someone else. Not unlike the speculation we are seeing in the real estate market.

Now the stock and bond markets are in the process of adjusting price for risk level and many assets have changed risk classes (ie investment grade bonds become junk). One way to have superior returns is to luck into investing in something where the risk level is about to be adjusted downward, as in a turn around play returning to profitability, or a startup about to become a growth company. I say luck into because that's exactly what you have to do, because once it becomes known something is changing risk levels, it is priced away. Right now people are experiencing the flip side of that, assets whose apparent risk level is being adjusted higher and the attendant disappearance of premiums paid for lower perceived risk. See utilities stocks.

What has been discussed ad nauseum is the background necessary for a speculative bubble to form is one of below market rate money made available by the Fed. But what happens during one of these is a fundamental shift in psychology. Once the psychology of continuously rising prices sets in, almost no amount of sound reasoning can disuade participants and it might take significantly higher interest rates to get people to back off.
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