What Do New Highs Mean for Investors?

 This March the Dow Jones Industrial Average reached a new high, surpassing the 14,164 mark last seen in October 2007. Must be a big deal, huh? Some are wondering if this is a sign they should “get back in the market” while others wonder if it’s time to take a step back. What does this new high mean for investors?

History Lessons

This is not the first time that markets have reached new highs. History offers some interesting footnotes. While we know that with performance, as in most things, history does not repeat itself (and past performance does not predict future returns), it is often said to rhyme.

  • Looking at the S&P 500 since the 1950s, when markets have reached new highs, the index continued to climb for almost 2 years (644 days). The mean return was 40.3%. [Source: Ned Davis Research via MarketWatch & Reformed Broker]
  • A study going back much farther, from 1791 through 2012, analyzing US markets indicates that while the average 12-month return for markets was 4.3%, the returns for the 12-months after reaching new highs were 5.5% (compared to 0.9% after reaching new lows). Prefer to focus on more recent data? The same analysis showed that between 1950 and 2012, the average return for 12 months following a new high was 8.5%. [Source for this information & the chart below: Buy High, Sell Higher? 2/6/2013, MebaneFaber.com]

Considerations for Today

We should not merely look at the past. Here are some important topics that I think are relative to today’s situation.

  • Valuations. Price matters when it comes to stocks. A commonly-used measure for the price, or valuation, of the market is the price-earnings ratio*. In their latest Guide to the Markets, JPMorgan Asset Management reported the current P/E ratio for the S&P 500 to be 12.5x. That was slightly higher than a year ago when it was measured at 11.8x, but below the 20-year average of 16.2x. This puts the current price of the market at about 76.9% of the 20-year average or about a 23% discount.
  • The Economy. February’s unemployment numbers were surprisingly good relative to analyst estimates. Housing markets continue to improve. The energy picture in the US is shifting and altering assumptions for trade balances and manufacturing. These positive factors are being offset by ongoing government dysfunction with the forced budget cuts of the sequester and a possibility of government shutdown if there is no budget resolution by March 27th. All-in-all, though, things are slowly becoming “more normal” and improving after the long aftermath post-Great Recession.
  • International Markets. According to Bloomberg News, the Dow joined just one other major stock market – the Copenhagen Stock Exchange in Denmark – in regaining all-time highs. Many international markets are still sorting their way through economic slowdowns. If you have a geographically diversified investment portfolio, this means that there may be both challenges and opportunities around the world. It’s a reminder to expand your focus.
  • Should I Get In or Out Now? Much of the media coverage around new highs has focused on whether investors should get into or out of the stock market. In our opinion, this is a distraction. Our recommended alternative to “market timing” is a strategy of rebalancing to keep the parts of the portfolio in line with pre-determined long-term allocations. One caveat: If your circumstances have changed you should discuss them with your financial planner. If you know you’re planning to make some withdrawals from your portfolio in the coming months, it’s always a good to consider getting that bird in the hand.

New highs were bound to happen at some point, in spite of the naysayers. Whether you’re jumping for joy or on pins and needles, it’s important to keep perspective on your personal situation and financial goals. Stuck scratching your head? I’m happy to try to help you. I can be reached at Melissa.Joy@CenterFinPlan.com.

Melissa Joy, CFP®is Partner and Director of Investments at Center for Financial Planning, Inc. In 2011 and 2012, Melissa was honored by Financial Advisor magazine in the inaugural Research All Star List. In addition to her frequent contributions to Money Centered blogs, she writes frequent investment updates at The Center and is regularly quoted in national media publications including The Chicago Tribune, Investment News, and Morningstar Advisor.

Financial Advisor magazine's inaugural Research All Star List is based on job function of the person evaluated, fund selections and evaluation process used, study of rejected fund examples, and evaluation of challenges faced in the job and actions taken to overcome those challenges. Evaluations are independently conducted by Financial Advisor Magazine.

*Price-earnings ratio or P/E: a valuation measure of a company’s stock measured by the market price per share divided by annual earnings per share.

The information contained in this report does not purport to be a complete description of the securities, markets, or developments referred to in this material.  The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete.  Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation.  Any opinions are those of Center for Financial Planning, Inc., and not necessarily those of RJFS or Raymond James.  The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market.  The Dow Jones Industrial Average (DJIA), commonly known as “The Dow” is an index representing 30 stocks of companies maintained and reviewed by the editors of the Wall Street Journal.  Inclusion of these indexes is for illustrative purposes only.  Keep in mind that individuals cannot invest directly in any index, and index performance does not include transaction costs or other fees, which will affect actual investment performance.  Individual investor’s results will vary.