Since the 222 point drop in the S&P from July 18 to August 15, 2011, the indices have soared on liquidity and resulting bullish sentiment. The rises from March 9, 2009 to July 18, 2011 and, after that nasty 4-week plunge, from August 15, 2011 to the present have been sensational. Corrections in the past two years have been mild and short-lived in historical terms. Why would anyone worry about a bull like this? Why not just buy an inexpensive total market index like Vanguard's ETF (VTI) and, since the bull is aging, buttress it with an S&P ETF (VOO) or Mega Cap (MGV) and let things ride?
There are several reasons for concern but it is not clear that these worries negate or reinforce the case for the low-cost diversification and buy-and-hold strategy that define the Vanguard approach. As we will see, buy-and-hold may work better now for equities than for bonds. For trading and short term gains (keep this in a retirement account) in these artificial markets, PMs (precious metals) are the best vehicles.
QE (debt creation) not only has caused significant genuine (rather than official) inflation and made national debt soar, it has made the bond markets fragile and volatile realms of low yields. The nominal value of bonds look nice on balance sheets but unless one plans to cash them in like growth play stocks, their worth as income producers has been cramped, even crippled. Indeed, for bonds QE creates a "return-free risk" scenario. If those heavily weighted in fixed income hold in this situation, it is with a grip white-knuckled by the real, perhaps inevitable fact that at some point QE will end or simply fail to keep yields low and asset values high. With yields again popping 4 basis points October 24 after a notable decline, it may be time to pare those gains though it goes against the classical purpose of holding bonds. Classical measures of value have been destroyed. It is very difficult to find true price discovery or a reasonable degree of certainty about these markets except that they are artificial and fragile, susceptible to infection from myriad sources. Though equity trends strongly ascend, the ascent is not based on increasing revenues but liquidity that equals debt.
In this context, if one "buys the market" one is betting on continuing QE and an absence of crises that have lingering effects. While QE is likely to continue so long as policy-makers prefer to keep the markets climbing (and their reasons for doing so surely are subject to change, they are not "just folks"), geopolitical, fiscal or economic crises are nascent, ready to burst into flame. So if you simply develop an allocation, buy and mainly forget about it, the chances for painful surprises are high.
Trying to choose intelligent entry points is somewhat simpler: there is so much change in various sectors and the fortunes of various companies, excellent, middling and weak that a skilled trader can accumulate gains. The cost of succeeding at trading is constant study and readiness. Even with these, macro events can overwhelm almost anyone.
One could argue that in markets as artificial and fragile as our QE and ZIRP express, the safest plays, oddly, are to invest in an artificially depressed sector like PMs (precious metals). By learning company basics and, even more, price action and patterns, one can enter during the frequent sustained lows and exit with a profit. When embraced fully, this approach is totally unsentimental and even unconcerned about the relative merits of the companies one trades because "Mr. Market" and strong hands also do not care about the excellence of Endeavour Silver (EXK), First Majestic (AG) or Silver Wheaton but treat them more or less the same as Kinross Gold (KGC) or IamGold (IAG) which, to be sure, also are undervalued, especially IAG.
As with many things in life, and certainly in the markets, it may be best to hedge one's strategy by having some low-cost broad exposure ETFs to sectors like Health Care and Consumer that are aligned with cultural dynamics. Sprinkle in equities that are good trading vehicles, like PMs and some that whatever monthly or quarterly action may bring, are rooted in social trends, companies like Starbucks (SBUX), Dunkin' Brands (DNKN) and major media like highly rated CBS (CBS) and Time Warner (TWX). Buy on one of our recurring bimonthly corrections and hold, taking occasional profit as your overall situation dictates your degree of caution suggests. For my thoughts on the two great and complementary coffee companies see here. SBUX is entrenching its appeal to its core style-and-socially-conscious base with its Zen-trend Teavana tea house initiative.
Those who prefer to be especially heavy in consumer (39%) and industrials (22%) and relatively light in health care (8%) and financials (7.5%) can try Vanguard Dividend Growth (VIG) ETF. It yields about the same (2.2%) as the S&P but gives you different sector weightings. If you prefer a more balanced and higher yielding (3.2%) ETF, the High Dividend Yield (VYM) weights 23% to consumer companies, and about 12% each to energy, health care, industrials and financials with 9.3% in tech and 8.2% in utilities.
As for bonds, everyone needs them and most everyone should retain some even when yields rise (or soar) and asset values plummet. Those who manage the machine probably will find some balance. But for the most part, given the nature of these markets, some of your bond holdings should be in ETFs you can trade at recurrent highs in NAV and buy back at lows. The way things are, don't be too upset at the prospect of being heavy in cash now and then. Yes, inflation is eating it which is why you need to be largely in the markets but also the markets are juiced and before long there will be a lengthy hangover.
Evaluate how much you can be in the markets during a sustained period of asset decline: such a time is possible, even probable. I have identified the companies that are suited to what our culture is and is becoming and will survive and even bustle as society decays. These include SBUX, DNKN, BP, TWX, and Boeing (BA). These companies all are tops in profitability and growth metrics except for DNKN whose growth and long-term core position in culture support.
Takeaway: Buy-and-hold with part of your portfolio, the proportion depends on your income stream and net worth: your survivability. For the rest, some cash and trading in PMs has become essential like many other weekly or monthly tasks, laundry, cleaning the basement, etc.