Now's Not the Time to Give Up on Stocks

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Includes: DIA, QQQ, SPY
by: Ockham Research

As yet another down week for the stock market comes to a close, it may be time for a pep talk. There’s a lot of pessimism in the financial markets right now and that sentiment only worsened with the release of inflation data this week. Consumer prices jumped 4.3% in January, which may limit the Fed’s options regarding further monetary easing in the months ahead.

Also this week, oil crossed back over $100 a barrel for only the second time in history. There is fear that crude prices will push even higher into record territory when OPEC ministers meet in early March, as some analysts speculate that the organization may agree to production cuts at that meeting. Rising commodity prices combined with mounting evidence of a slowing economy have stoked the fears of some pessimistic market watchers that the economy may be facing a period of “stagflation”, that dreaded financial phenomenon not seen since the late seventies.

In times like these, it is worth remembering the adage “this too shall pass”. Bear markets do come to an end and rising stock prices will return. When times are tough, it is easy to be a pessimist (and a majority of investors currently are). However, successful investors are those who see opportunity in all market environments and who take appropriate steps to capitalize. The only way to guarantee a loss in a in a bear market is to sell in the midst of the carnage. On a positive note, stock market valuations are just now reaching more reasonable levels. For example, the market’s price-to-peak earnings ratio is now hovering at around 15x, which has historically been a great level at which to increase equity exposure.

Back in late 2006 through 2007, we had predicted that the market was due for a pullback as valuations could not persist at such high levels indefinitely. Well sure enough, this has happened and now the “experts” have changed their tune from touting the “Goldilocks” economy to bewailing various doom and gloom scenarios. Logically, everyone knows that the stock market cannot always go up. But now, almost six months after reaching its all-time high, the Dow is down 14% and many act as if they believe the roof is caving in.

Do not be swayed by the pundits and experts telling you that the U.S. financial system is fragile and weak. While the difficult housing market is a concern in many important regions, it represents a relatively small (4.5%) sector of the economy. The economy grew last year in the midst of a burgeoning credit crisis. The U.S. economy will remain strong as long as American consumers and businesses continue to spend as consumption is the source of nearly 70% of our GDP. Be wary of falling into the pessimistic mindset that the news outlets are using to drive ratings and readers, because if you do, you could miss a terrific buying opportunity.

Disclosure: None