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Strategies & Market Trends : The Residential Real Estate Crash Index -- Ignore unavailable to you. Want to Upgrade?

To: GraceZ who wrote (6551)	11/3/2002 7:50:24 PM
From: Wyätt Gwyön	Read Replies (1) \| Respond to of 306849

So when do you switch back to buying stocks? well, i do own some stocks already. just not mainstream US stocks, and not a huge amount percentagewise. the way i try to look at it is the expected real returns. expected real returns can be calculated a number of ways, but probably the simplest is the dividend yield plus 60 basis points in yield growth (according to Bill Gross in his "Dow 5000" article). that would've accounted for basically all of the real returns on the SPX for the last century. if the dividend yield is about 2%, then perhaps long-term real returns are going to be about 2.6%. with the return on the 10yr TIPS currently somewhere around 2.5-2.6% (i got a 2.63% YTM on a purchase made on 10/22, but i believe it's come down a bit as bonds have rallied), it seems there is zero risk premium built into equity prices. when one considers that the historical risk premium is around 2.4%, that means the dividend yield should be something like: 2.6% TIPS yield + 2.4% risk premium - 0.6% dividend growth = 4.4% or more than double the current dividend yield. thus stock prices should be cut in half to get the risk premium back in line. of course, even if one accepts this type of argument, we can always say it's a "stockpicker's market", and so many of us try to pick a few stocks. myself included. however, if the averages go down, then the picks of the average stockpicker will go down. and so one must ask how much above average one is. and it gets to be like that question about whether one is an above-average driver, which supposedly 80% of Americans claim to be. likewise, everybody thinks they're an above-average stockpicker (otherwise they wouldn't bother, right?). but how can we all be above average? we must all live in Lake Woebegon! my preference would be to have a cheaper market, where the risk premium made sense. then we could just buy the indexes and play golf all day. but i am not such a strong adherent to modern portfolio theory that i want to be an average loser. so, like all the other patzers, i have a few picks. my caveats are that 1) my stocks are typically international value picks, so they should have a relatively low correlation to the SPX or US large growth indexes. 2) more importantly, i don't own that much on a percentage basis, so even if my picks crater or all stocks go to hell in a handbasket, i'm still largely out of the market. kind of like i'm dipping a toe in, and maybe the alligator (bear) will bite off my toe, buy i can still hobble to my cash and bonds and shorts car and drive away before he gets my arms and legs. the main thing i get out of an expected-returns approach is that i am very secure in the feeling that i am not leaving a lot "on the table" by staying away from a large equity allocation. this means i feel no compunction to chase rallies--and hence keeps me out of trouble. If you think stocks can blow up you haven't lived until you own bonds that blow up i guess you are talking about default risk in individual issues, like what-if-you-had-owned-WCOM-bonds kind of thing. my response to that is, i just own a diversified bond fund for corporates. i see absolutely no point in sticking my neck out on a large position in any investment grade corporate. as i mentioned before, i just own a short term corporate fund where they own 425 different bonds with an average quality of Aa3 and average duration of 2.2 years. so i am not overly concerned about individual blowups. OTOH, in an extreme situation all of corporate America could default (like if we get nuked or something), but in that case, my guess is i would rather own bonds than stocks, and we all may have much bigger worries than portfolio performance. for governments, the only thing i own is TIPS because i am not sure inflation has been defeated. however, the 10yr has been so volatile that i have moved in and out of them several times this year. recently i started buying back in as mentioned above. And RIETs, bless their little hearts, can lose half their value over night well, like i said, i only have a few percent in REITs, and again, this is via an index fund which holds 115 different positions. i expect the dividends on the REIT index to be stabler than on individual issues. in any case, REITs outyield the SPX quite decisively--about 7% for REITs compared to 2% for the SPX. if one believes that long-term returns largely come from dividends, then i have a hard time believing 2% is going to outperform 7%. Limited upside with the same downside risk you get holding equities and you get to pay tax on the income none of these things are designed to be "home runs". they are just singles, just a holding pattern. i am not shooting for HRs anymore--not until we get a bloody cheap market, anyway! that would mean everybody is scared shtless of equities, so nobody's buying and they're actually cheap. only time will tell if i will step up to the plate then. Meanwhile stocks are returning twice or three times the yield but most are too scared to buy so they don't participate so 2 or 3 times the 7% REIT yield would be 14% to 21%. i have a hard time believing stocks will return those numbers over an appreciable time period, like 10 or 20 yrs (or even 5!). however, the sharp rallies are a boon to the market timers--the lucky ones, anyway.