Stocks fell over the past week while bonds rose. Stocks seem to struggle, slipping back every time they make any progress. I mentioned last week that the markets are nearing the reversal point, where stocks may finally find more favour than bonds. Over the past week, the market shied away from the reversal point, as they have so many times recently. Summer time still appears to be a time for the status quo, where investors are too timid to take risks with big changes. If your portfolio is balanced between stocks and bonds, continue to overweight bonds. The strategy has paid off nicely over the past year. Looking back, the signal to switch from stocks to bonds came on June 20, 2011. Between that time and today, stocks have fallen 10% while bonds rose 5%. Overweighting meant outperforming. For an asset rotation portfolio, the signal remains in favour of real estate (XRE).
The economy doesn’t appear to be nearing a reversal. The idea of the business cycle is based on the notion that the economy, in its growth, overshoots both when weakening and strengthening, before changing direction. In order for me to believe that the economy is about to begin weakening, it should appear over-strong. That is certainly not the case at the moment. Interest rates have continued to fall and the outlook is not particularly encouraging. The stock market still appears to be undervalued, sitting near the low end of the range of my fair value estimate. If any really encouraging economic news is reported (which doesn’t seem likely over the next month or two), the market could easily jump 1000 points (close to 10%). The low volatility index reading, however, implies that most investors feel the present level is appropriate.