Believe it or not, the market meltdown from the fall of 2008 was over two years ago, (although it feels like it was yesterday that we were discussing nationalizing the US banking system). Since the end of 2008, stocks, measured by the S&P 500 index have returned 18% per year. That may sound a bit surprising to some because of the volatility that has occurred, unemployment rate being high, and the housing market still messy to say the least, but fundamentals on almost every level continue to improve. Within corporate America, it is well documented how stuffed balance sheets are with enormous amounts of cash, how open the bond market has been to refinance or issue long term debt at attractive interest rates, and how aggressive cost cuts have been. Yet, although they have generally performed well since early September (or when rumblings of the Fed imposing QE 2 began), stocks continue to be undervalued in our opinion (more on that in a moment). From a macro economic standpoint, demand has started to return by posting stronger than expected retail sales and industrial orders. Finally, jobs, the final piece of the recovery puzzle continues to improve. On Friday, labor statistics showed a gain of 113k private payrolls (with November's number being revised upward), resulting in twelve straight months of positive private jobs being created; It may not have been what was expected, but it is still a solid number, and consistent with a recovering economy.

Consensus earnings expectations for the S&P 500 index is for $92 in 2011, and $99 in 2012, implying price-to-earnings multiples of 13.7 and 12.7 respectively; this is a solid discount to the 50 year average multiple of about 15.5x. So, if corporations are operating at lean levels, balance sheets continue to improve, and demand and jobs are moving in the right direction, then, in our opinion, the case for owning stocks (or at least reducing cash) is still very much warranted. That being said, the low-hanging fruit has been picked. For example, Apple Inc is a much harder investment decision to buy today at $330 per share, than when it was $95 per share in November 2008; Switching from passive to active investment management is advised.

Now, not all stocks are created equal. If you are nearing or in retirement, and have an overweight to cash, then you should be looking at preferred stocks, or other high dividend producers, like MLPs and REITs. On the other hand, if you have the time horizon and ability to do so, I would recommend a combination of large dividend producing companies, and also a portion of small and mid cap stocks, which typically outperform in a recovering economy as risk returns.

I suspect 2011 will continue to produce its ups and downs (much like the past few years). The European debt crisis is still a big issue. The US Municipal debt (particularly in Illinois) issue is lingering. Congress is still Congress. When and if these issues present themselves and the markets react, we could view those situations as continued buying opportunities since the underlying fundamentals of stocks improve. However, long term investors should not wait for dips to begin investing, but rather start a systematic plan of redistributing cash back into the market.

 

 

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