News Flash: Market Near All Time Highs, Watch Out
Reuben is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
On Friday January 25, The New York Times sent out a “Breaking News Alert.” It seems that the S&P 500 “...ended trading Friday above 1,500, just 5 percent shy of the record high of 1565.15 hit in 2007.” The newspaper describes investors as pouring money into stocks because they are “more afraid of missing out than of misreading Wall Street again.” Unless this time is different, investors should be frightened by this kind of breaking news.
A Large Advance
In 2000 the stock market hit a nasty air pocket after investors realized that technology stocks, particularly Internet related ones, weren't going to go up forever. Yes, companies DO need to make money! Less than 10 years later, the next bubble, this one in housing, took the market by storm. This financially led downturn coincided with the deep 2007 to 2009 recession, an event that has often been compared to the Great Depression.
That recession was so severe, in fact, that the economy has yet to fully recover, limping along at a pace eerily reminiscent of, well, the Great Depression. To make matters worse, many of the ills that afflicted the United States before the bottom fell out of the market are still with us.
That list includes massive debt loads at government levels from local to federal, a healthcare system (including Medicare and Medicaid) that is an increasing strain and remains a bitterly dividing issue, and Social Security is about to get hit by the retirement of the Baby Boomers, something everyone knows it isn't up to handling while still providing for the generations afterward.
The Market Climbs a Wall of Worry
“It's always darkest before the dawn” and “the market climbs a wall of worry” are two well-worn sayings on Wall Street. However, so is “don't follow the crowd.” In fact, the “crowd” is often called “dumb money.” With investors coming aboard just as the market is reaching its old highs, “afraid of missing out,” it's hard to see how this news is all that positive.
In fact, some very bright minds have been growing more cautious in the last year. For example, insurance giant Prudential (NYSE: PRU) cut its long-term stock market return projections by over a full percentage point in 2012. The accounting underpinning the insurance industry is very complex but the basic insurance business model is pretty simple: Take money from customers for the promise of insurance coverage and invest that money profitably over time.
There is a lot more going on than that, but a quick look at the long-term success of Warren Buffett's Berkshire Hathaway (BRKB) is, perhaps, the perfect example. The so-called oracle of Omaha basically uses the insurance shell to fund his company's stock investments. Prudential does the same thing, but to much less fanfare. That Prudential sees a less compelling future is telling.
Prudential, however, isn't alone. Bill Gross of PIMCO has been warning of weak investment returns for several years, using the term “new normal” to describe the situation in which we find ourselves. PIMCO's forecast for the United States is for economic growth slowing from around 2% to the 1.5% range. That's painfully close to recessionary levels. The company's Dividend and Income Builder Fund (PQIIX) counts Total (NYSE: TOT) and Royal Dutch Shell (NYSE: RDS-B) as notable hard asset holdings. When things go poorly, hard assets often tend to hold up well.
Total is financially strong despite its exposure to Europe, and should be able to weather any of the problems that come from that continent's woes. Moreover, the company has been investing heavily in an effort to find new reserves and has notable positions in the liquified natural gas and chemicals industries. With a yield hovering around 5%, Total might interest income minded investors. That said, heavy spending on growth projects could limit dividend growth over the near term. Still, the recent price appears to discount many of the negatives that face the company over the long term.
Royal Dutch Shell, meanwhile, is another oil giant, but it doesn't have all of the baggage saddling Total. True, it is located in a financially weak region, but the biggest issue dragging on the stock is an aggressive move into natural gas. Although this energy source appears to have great potential, low gas prices in the United States are a massive obstacle that only time, and a return to a more normal price/supply equilibrium, can heal. Its yield of about 5% is more than double that of industry heavyweight and Dow-30 component ExxonMobil (XOM), despite their overall similarities, which suggests Shell might be a good place to hide if the newly exuberant investors turn out to be “dumb money.”
John Hussman of the Hussman Funds is another notable bear. The manager doesn't make predictions about the direction of the market, but, instead, uses the statistics that describe the market to compare it to similar historical instances. Those relationships guide how aggressively or carefully he invests the funds he manages. Right now, he's seeing a market that is frighteningly similar to markets right before some of the worst market turns on record.
The bond fund Hussman runs, Hussman Strategic Total Return Fund (HSTRX) has the leeway to own gold shares. Clearly, this is something you do if you think things are going to get bad. It currently has 10% of assets stored in gold. Some of his gold picks over time have been Gold Fields (NYSE: GFI), a PIMCO favorite as well, and industry giant Barrick Gold (NYSE: ABX).
Gold Fields is one of the largest gold miners in the world, with a heavy concentration on South African assets. Although its production costs are on the high end of the industry, it has material reserves, which helps to ensure its long-term viability. It is also working on expanding production at key mines, which will help keep costs in check. Gold Fields, like all miners, is subject to the price fluctuations of the ore it pulls out of the ground. The company's earnings and dividends have been equally as volatile.
This isn't a stock for the feint of heart. However, gold is a hard asset that has historically provided some protection during difficult times. For income investors looking for gold exposure, this stock's 3%-plus dividend yield might be an interesting way to prepare if Hussman's dour expectations prove accurate.
A discussion of gold wouldn't be complete without bringing up the world's largest gold producer, Barrick Gold. The company has been dealing with material headwinds of late, including falling production and rising costs. That's not a good combination. What appears to be a poorly timed acquisition isn't helping matters.
With a new CEO at the helm there are some added execution risks, as well as the obligatory review of the company to find things to write down that can be blamed on past management. Still, the company has a number of projects in the works that should keep rising costs in check and continue to move the company forward. With so much going on at the company, it doesn't seem appropriate as a dividend investment for conservative types, but it might interest more aggressive investors who believe gold stocks are set to rise sharply because of ailing markets.
Still More Bears
And the list of bears doesn't end here. You can count John Boggle of Vanguard fame among their camp, as well. He's publicly stated that market returns aren't likely to be very good going forward. While he doesn't disclose holdings like fund companies have to, it isn't a stretch to suggest that investing near the market's all time high probably isn't on his recommended list.
Of course, as an investor, you can't just sit on the sidelines. The four companies noted above offer compelling growth opportunities if the market doesn't crash and should provide some protection if it does. No investment will be immune to market turmoil, of course, but it makes sense to be prepared for the worst with at least a portion of your assets.
ReubenGBrewer owns several Hussman Funds, but has no position in any stocks mentioned. The Motley Fool recommends Total SA. (ADR). Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!