By John Maher
Lately, we have seen an uptick in clients who express concern that stock valuations are overheated and could soon spill into bubble territory. Surely, other advisors are contending with similar jitters from their clients as well. This is predictable, thanks to markets surpassing one benchmark after another in recent months—a surge that, more or less, follows a sustained, eight-year rise in equities in the wake of the financial crisis.
Reinforcing this sense of unease are market pundits, talking heads and other so-called financial experts touting their theories on financial news networks of why the other shoe is finally about to drop, including increased tensions with North Korea or the tense domestic political environment. Another popular view is that today’s environment is similar to the conditions that prevailed in early 2000, just before the floor fell out of the Nasdaq and the dot-com bubble burst.
Doomsday scenarios may drive ratings, but they typically lack important context. Still, it’s easy to understand why clients can become unnerved, especially those who are nearing or are in retirement. The following are four must-have client messages to assuage fears about today’s market environment:
- An index is just a number. Earlier this year, as the Dow crept toward 20,000, the financial news networks breathlessly reported each incremental rise as if it were breaking news. When the 20,000-point barrier was finally broken, it was framed as a celebratory event. The truth is, it was hardly an event at all. Make sure clients realize that despite this hysteria, the level of the Dow, the S&P or any other index is virtually meaningless, revealing almost nothing about whether individual stocks are "too expensive." About the only thing we can glean from "Dow 20,000" (or "Dow 21,000" or "22,000," for that matter) is that the bull market is still on.
- Bull markets do not die of old age. Picking up on the above, when some investors hear the Dow or another index has eclipsed an ostensibly important milestone, their primary emotion is not elation, it’s fear. In their mind, that’s a sign that stocks are too frothy and a drop-off is imminent. There are a number of reasons why bull markets falter, but clients need to know that old age and high valuations alone are not among them. Remember, valuations were high in 2004, but that didn’t stop markets from continuing to rise. In fact, from December 2004 to November 2007, the S&P gained 35 percent, or just under 12 percent a year.
- Market corrections are standard. Reemphasize that corrections are a normal occurrence—and, in fact, may help fuel longer-term expansions through a process of depressurization. From the beginning of 1980 to March of this year, the average intra-year drop in the S&P was 14.1 percent. Even so, markets made annual gains 75 percent of the time over that stretch. Admit the obvious: tell clients that corrections are an unavoidable reality of having exposure to equities, even as it’s impossible to know for sure when they will come or how quickly they will materialize. More importantly, be sure to note that when a correction does occur, panicking is a waste of energy, since their financial plan takes into account such occurrences.
- Context is important. Much has been made of the fact that economic growth both in the U.S. and across the globe remains relatively sluggish. As a result, many pundits have touted the idea that markets can’t possibly sustain their current levels, let alone rise. But we’re in a new normal globally, where low-growth levels justify accommodative central-bank policies. The past, therefore, has very little in common with today’s dynamics, and within this context it’s easy to see how the economy could continue to expand and support further advances in the equities markets.
In the aftermath of the financial crisis, it was hard for many advisors to envision a time when they’d be fielding calls or responding to concerns about the market being too good. But that’s precisely the fear today among many clients, whose outlook is basically, "This can’t possibly last." And maybe it can’t. After all, ebbs and flows are a part of investing.
At the same time, advisors can’t allow their clients to take a "What goes up must come down" approach to their investments, and should be ready to have clear-eyed, sober conversations with those who do.
John P. Maher, CFA, is the chief investment officer for CCR Wealth Management.