For another week, stocks have fallen while bonds have gained. Stocks are about 0.5% lower, but bonds rose about 0.5%. There may be a couple reasons for this, but it reinforces the idea that money isn’t flowing freely into stock market investments at this time. In perusing financial news headlines, I came across a couple articles that argued institutional investment managers are directing funds towards equities, and now it’s time for individual investors to follow their lead. On balance, I’m not sure that’s true, since it appears that confidence in risky assets is still low. It’s difficult to explain why bond yields continue to drop, unless investment managers (in aggregate) continue to prefer bonds.
Last week, I suggested that an investment account that is balanced between stocks and bonds should return to policy weights. I continue to hold that opinion. Stocks’ momentum has yet to surpass that of bonds, but they are approaching equilibrium. It appears that now may be the time to take profits from bonds, in anticipation of future flows of capital. For a portfolio that rotates between asset classes, the signal has changed from real estate back to emerging markets (XEM). The difference however is slight, so I won’t place the trades this week in order to keep down trading costs. Actually, XRE performed very well last week, better than any other asset class, so I hesitate to sell it (which I realise is an emotional reaction).
My fair value estimate for the stock market continues to fall. I wonder if companies continue to report disappointing earnings. The stock market is now discounting 12 month earnings growth of 8%, implying that companies need to report 8% higher earnings in 12 months to justify current prices. Comparing the TSX to other stock markets is instructive. From 2007 to 2011, Canada’s TSX outperformed the stock markets of other countries. Over the last year however, the leading stock markets (Canada, Mexico, Brazil) have underperformed while other markets have caught up (S&P 500, Dow Jones, Europe). It’s time for me to add additional geographic sectors to my asset rotation model.