This Monday, be sure to say "happy birthday, bull" as the current bull market will turn five years old. Since bottoming on March 9, 2009, the S&P 500 has gained nearly 200% on a total return basis. This is quite the reward for someone who braved the fear and pessimism that was occurring back then and bought a stock index fund, such the SPDR S&P 500 (NYSEARCA:SPY).
Also take time on Monday to reflect on your emotions, portfolio decisions and tolerance for risk during the last bear market. Yes, I realize it was a dark period you'd as soon forget, but this is a useful exercise. The level of pessimism and fear was very high: Bearishness in our weekly Sentiment Survey reached a record level of 70.3%. Banks were failing left and right, credit was extremely tight, and well-known financial firms were imploding. There was even speculation about General Electric (NYSE:GE) going bankrupt.
What was your reaction to the negativity? Did you pull out of stocks and equity funds completely? Partially? Were you concerned the economy was about to fall into the abyss? Did you think further stock market losses were coming? Or did you open your wallet and start buying stocks?
If you were terrified, don't feel alone. Many people were. A key problem with many economic theories is the assumption that humans are rational, profit-maximizing individuals. As behavioral science shows, we're emotional, impulsive and overly focused on the short term. Our minds are programmed for survival, not Mr. Market's ever-changing moods.
Now, fast-forward to today. What do you think of the current environment? Are stocks going to continue rising for another year, two years, three years? What about bonds? Are interest rates going to be somewhat range-bound until at least 2016, or will they experience a sharp rise sooner? Before you answer, consider what your forecast for stock prices was during the second half of 2008 and the first quarter of 2009. If you made the wrong prediction then, what makes you think you'll make the right prediction now? And if you did make the right prediction then, how certain are you of your ability to consistently make accurate forecasts in the future? The odds of doing so aren't in your favor.
Part of what makes it so difficult to forecast what is going to happen next right now is history's lack of clear insight. Sam Stovall, the chief equity strategist for S&P Capital IQ, says 11 bull markets have occurred since World War II. These rallies have lasted between 1.1 years (May 1947 through June 1948) and 9.5 years (October 1990 through March 2000). Five bull markets celebrated their fifth birthday and three celebrated their sixth birthday. The price-earnings (P/E) ratios and bond yields existing at the end of each bull market were all over the place.
Robert Shiller's cyclically-adjusted P/E (CAPE) ratio isn't a straightforward decision maker either. Bears compare to the CAPE's current reading of 25.16 to the 1901 peak of 25.24 and the 1966 peak of 24.1. This comparison, however, ignores the 1929 high of 32.6 and the (December) 1999 high of 44.2. In other words, though the CAPE is currently above its historical average and median levels of 16.5 and 15.9, respectively, it has gone much higher in the past. A high valuation never guarantees an imminent decline in prices; it only implies that the risks of owning an asset are elevated.
So what are you supposed to do with this information? Control what you can control and don't worry about the rest. You can control your ability to ensure your allocations match your long-term goals and not your short-term expectations. You can't control whether stock prices or interest rates will rise or fall in the future. Most importantly, consider that even if your short-term timing is terrible and you get into the stock market at a time like January 2000 or January 2007, you will likely still do better by staying invested no matter what the market does. I'll show data supporting this statement in either the April or May AAII Journal.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.