Let the good times roll. From April 2009, just after stocks bottomed, through July 2018, the NASDAQ 100 advanced by 548%, the S&P 500 CCC and Lower HY Corporate Bond Index gained 473%, and the Russell 3000 returned 335%.
Unemployment remains near the lows of 2000 and 1970, and second quarter real GDP grew 4.1%. On top of that, with about 90% of S&P 500 companies having reported Q2 earnings, sales are coming in at 11% higher YOY, the beat rate on earnings is at a historic high of 78%, and operating margins are at 11.6% versus a 20-year average of just over 8%.
With such encouraging data, it’s no wonder that the stock portion of investor portfolios is near its all-time high of 62.5%, and that allocation to cash (9.9%) is at a low going back 15 years, according to BofA Merrill Lynch data. Investors weren’t even this fully invested in 2007 before the financial crisis.
It’s easy to get carried away by the headline numbers indicating just how good things are at present. It’s just as easy to forget that all that good news is already priced into the market. Investing is always a forward-looking endeavor, and therefore, the only question that really matters is, what’s the market missing?
According to Morningstar, as of July 31, investors added $159 billion to stock funds and ETFs over the past year, which when combined with market performance, put overall stock allocations in the aforementioned spitting distance of their all-time highs. Now in fairness, investors do appear to have been thinking about diversification, as they’ve also added $272 billion to bond funds and ETFs. Investment grade debt, which accounts for most of those inflows, has traditionally played a crucial role in diversifying equity risk. But that was when investment grade debt offered a meaningful real return on an ex ante basis; we can’t say that today.