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Strategies & Market Trends : MARKET INDEX TECHNICAL ANALYSIS - MITA -- Ignore unavailable to you. Want to Upgrade?

To: Shack who wrote (15171)	12/1/2002 7:47:11 PM
From: GraceZ	Respond to of 19219

Personally I don't think the bond rally is over quite yet. Bond funds are still generating returns higher than inflation and I think will continue to draw in cash (notwithstanding the recent sell-off). Well I don't expect the 15-18% I received in bonds last year, that's for sure, even if rates continue to fall. Sooner or later those bond funds will be looking at declining NAVs, reduced dividend payments and lower capital gains (or capital loses). My favorite bond fund would have returned 8-10% annually for the last 15 years (which sounds great until you realize that yields and the rate of inflation has been declining for 20 years giving them historically high capital gains). That return jumps up to 12-13% if you were able to exit the fund during the two worst years when stocks were going nuts and interest rates were rising. In those two worst years, the fund declined in the 20% range and it was quick and painful. To me, it's not worth that level of risk to hold this close to the theoretical rate bottom. I don't think I'm alone in that thinking....even while the public (predictably) piles into bond funds. I don't want to hold something with a possible risk of -20% and a possible reward of 12-15%. Certainly there are other funds where the R/R is more favorable. The question for me is what combination of S&P earnings multiple and risk free rate of return do we need to see a secular bull begin? I'm interested in your thoughts here. I don't know if I can answer that since while I follow the indices like everyone else I invest in individual issues. I prefer a stealth bull where my companies do well while everything else suffers and sentiment remains negative. -g- With a forward PE still over 30 for the S&P, I think we will either need to see the yield on the 10-year note drop below 3%, or we will need to see a large increase in corporate earnings to get that multiple lower. The latter shows absolutely no signs of occuring as of yet. Clearly there are lots of cases where companies remain grossly over valued in relation to their future prospects and these individual companies (and in some cases very large companies that are heavily represented in the indices), which may not make it through the next five years in the index, are skewing the collective PE for the whole index. You have companies that aren't growing that are sporting growth stock multiples with huge amounts of debt pinning down future earnings. Some of these will correct by increasing earnings and some will be merged out of existence. This is one of the reasons I don't buy the index even though it tends to be self correcting over time with good companies replacing the faltering ones. But even with individual companies it gets tricky trying to figure out what kind of multiple the market will assign them. Say you have a small to medium company doubling their earnings every year. You have to assume they can't continue that growth and that they will slow to say a 30% rate and then eventually that will slow to the rate of the GDP even in the BEST of circumstances. So say you value them at a 30 PE based on earnings growth three years out. I can tell you from experience in certain market conditions you'll be selling them long before price tops out because that kind of growth in a decent sized company is so hard to find. Surely some of these won't top out until they sport a PE three times that high. I'm not saying they are worth that, just what some will pay for them in some markets. It doesn't take many stories like that to get money out of cash into stocks because the return makes your risk free return of 3% look like a pittance no matter how low the inflation rate is and how risk free it is. At any rate, I expect inflation to accelerate slowly from here. Which will not be good for bonds even while it tends to be superficially good for stocks. It seems the policy now is to allow the dollar to fall to moderate the current account deficit, slowing imports. The Fed prefers this to having to raise rates to attract foreign capital in order to finance the account deficit. They do this because they are convinced that the inflation beast is all but dead and the weaker dollar will have little inflationary effect. They are right (temporarily) because so far it's had a deflationary effect on the countries we buy from because we are their biggest (or only) market. This won't continue if other markets start to come back. By the time they figure out we have endemic inflation in place, the geni is out of the bottle and it will of course be too late. This may take some time to develop. Meanwhile good companies without a lot of debt will continue to do well with the low cost of money and gradually rising prices.