Brett Arends has an interesting article over the weekend about timing the market: It’s Time to Time the Market.

After giving the usual reasons why market timing doesn’t work, he mentions an approach that is similar to my own: Using valuation and sentiment to make tactical adjustments (Incidentally, “Tactical” is the new buzzword amongst brokers and others who are not really using it properly).

Long term, Arends argues, stocks and bonds are not cheap:

“Over the past 80 years, according to data from New York University’s Stern School of Business, bond investors have earned an average of just over 2% a year, adjusted for inflation. The only way an investor would earn anything similar over the next decade would be if inflation were negative.

Stocks, too, seem pricey. Over the past 130 years, U.S. stocks on average have traded at about 17 times mean earnings for the previous 10 years—a measure known as the “Shiller Price/Earnings Ratio” after Yale economics professor Robert Shiller, who tracks the data. Today the market is about 22 times those earnings, a level associated with frothy markets such as 1929, the mid-1960s, and most of the period from 1995 to 2008.

Another measure, “Tobin’s q,” also suggests stocks might be in dangerous territory. Tobin’s q, named for the late Nobel economics laureate James Tobin, measures stock valuations against the cost of replacing companies’ assets. Right now the reading is 0.92, about 50% above the long-term historical average. Stock returns from these levels have usually been subpar.”

Under normal circumstances, I would have been aggressively pulling back equity exposure since, well last year. The wild card that has prevented me from doing that has been the Fed’s program of QE. Having made riskless assets much less attractive, the Fed’s liquidity fire hose has forced managers into equities beyond what is normally prudent.

Today, we are equal weight equities (we came into the year overweight equities).

The Fed’s impact on asset prices will eventually attenuate. Those of you who are playing along at home, make sure you have some set of parameters to alert you to evidence of when the Fed’s punchbowl has gone non-alcoholic so you can reduce your equity exposure substantially.

We continue to get closer to that point, but we are not quite there yet . . .


Source: WSJ


It’s Time to Time the Market
Brett Arends
WSJ, October 19, 2012

Category: Federal Reserve, Investing, Markets, Valuation

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

20 Responses to “Timing the Market ?”

  1. PeterR says:

    QE election year Santa Rally is likely IMO.

    SPY’s last bounce off MA(50) in July took off on fairly low volume. MA(20) is just above the action at 144.6, and a good move above this level may accelerate on its own momentum.

    Fasten seat belts?

  2. knockmacool says:

    The Shiller PE ratio in the graph drops as inflation accelerated in the 70s/80s. Has anyone done any work on that correlation?

  3. I respectfully disagree with the WSJ article. Those that have properly applied the Dow Theory for the last +112 years have handsomely:

    a) outperformed the market by ca. 2-3% annual.

    b) reduced drawdowns when the going gets tough substantially (i.e. loss of 15% versus a market decline of 40%).

    So even without risk adjusting the Dow Theory has been proven to be an excellent timing method. If we risk adjust, then the Dow Theory clearly shines.

    And there are individuals who have successfully timed the market for many years, with proven track records, consistently and well in the open. To name a few: Rhea, Russell and Schannep.

    Furthermore, for those needing to withdraw a part of their capital regularly (i.e. retirees) buy and hold with its inherent drawdowns may be a recipe for disaster. Imagine a retiree drawing 4% of his capital annually. Suddenly, 2008-2009 comes and his portfolio is down by 50%. He must draw 8% of the newly reduced capital to be able to survive. But 50% +8% means that now he is -58% down in the hole. For practical purposes, he is financially death. Game over for him. Since we are celebrating the 25 anniversary of the market crash, it is enlightening to compare how “Dow Theorist market timers” fared versus the “buy and hold” investor:

    Market timing is not easy. Success is not easy. However, market timing together with diversification among asset classes, is a must to survive long term.

    Where I agree with the article is that in current times buy and hold is a recipe for disaster. Now more than ever.


  4. b_thunder says:

    If stocks and bonds are overvalued, is that why hedge funds are in a mad race to buy thousands of foreclosed homes? Is that the only place to invest now? And could this be the Feds ‘hidden strategy’ to reflate housing bubble?

    When eventually the stock and bond market stops going higher (no patient can take more and ore drug without becoming drug -resistant), where will the money flow? Will the Fed openly assume the role of the Plunge Protection Team and buy S&P companies’ shares in the trillions?

  5. bonzo says:

    You could have made this same argument (that the Fed was propping up the market and would continue to prop it up forever), back in Jun 2011 when the SP500 was at 1340, and then look at what happened in Aug/Sep (intraday low of 1075 in Sep). And again in April of this year things were looking bright with the SP500 at 1420 and then it fell to 1283 in June.

  6. bonzo says:

    @knockmacool: pe’s dropped in the 1970′s because the “e” part was partly fictitious. Reported earnings were boosted due to the widespread use of first-in first-out inventory accounting back then, which is misleading under conditions of inflation. Standard accounting for depreciation also doesn’t work well with inflation. Also, there was quite a lot of economic depreciation (factories that had to be written off entirely due to rising energy costs and other technological changes) that was not being reflected in accounting depreciation (which assumed those factories had a 20 year lifespan or whatever). Finally, the tax system had higher rates back then, and when you combine income taxes with inflation you get nasty results. Bottom line, reported earnings were much higher than true corporate earnings from the shareholders’ perspective. Market prices fell to reflect the true earnings and this caused extremely low PEs. If using true earnings, PE’s were NOT that low in the 1970′s. Read Andrew Smithers “Valuing Wall Street”.

  7. Frilton Miedman says:

    Dow theorist, a problem with transports – coal.

    Since 2005 coal consumption has fallen 50% while NG has doubled, this has effected transports, but it doesn’t necessarily reflect the economy.

    I don’t know to what extent coal has cut into transports, but to me it seems like not researching that while observing Dow Theory is to fly blind.

  8. Using valuation over the very long term works, but most of us want to be more flexible. Making adjustments every several years based on valuation isn’t that practical. To me, valuation is a secondary indicator. IMHO, technicals and market internals are better indicators for making gradual adjustments to the portfolio. Then when market valuation is favorable it can be used to up the long exposure to capture extra long term gains.

  9. [...] Just how big a role does QE have on equity valuations?  (Big Picture) [...]

  10. ben22 says:

    Frilton Miedman,

    a drop in coal consumption versus that of natural gas is only one of many changes that have taken place in over the last 100 + years that the Dow Theory has existed.

    This doesn’t change the basic idea behind the theory however. The first and most basic tenet of Dow Theory is that “the averages dicount everything except “acts of god”

    from edwards and magee

    “Averages in their day-to-day fluctuations discount everything known, everything forseeable, and every condition which can affect the supply of or the demand for corporate securities.”

  11. lburgler says:

    Thank you, Bonzo! That was an intelligent response. I wish I was alive in the 70′s!

  12. CANDollar says:

    Glad you commented on Q. I use Q and NIPA data: corporate profits with inventory valuation adjustments.
    Graph the NIPA data and the SP500: its is a pretty good advance indicator. But I am with BR here in that I want to be out on a valuation basis (and a very recent technical basis) but FED keeps me in.

  13. Frilton Miedman says:

    ben22, would be nice if we could see a 100yr chart of both, the term “disruptive” comes to mind, fracking technology has altered the energy market, I’m certain that has rippled into trannies, just unsure how much it has effected the recent lag.

  14. bonzo says:

    for those going by sentiment, my impression is that everyone wants to be smart money nowadays. All these wise guys know that you can’t have a crash due to valuations when there is so much worry about a crash due to valuations, right? These wise guys are well aware that stocks are perpetuities and the Fed’s actions shouldnt’ have that much effect on prices, but since the dumb money out there thinks the Fed’s actions are effective, then the wise guys might as well jump in and take advantage of all that dumb money.

    Problem is, there is less dumb money than the wise guys think, and its actually wise guys playing against wise guys, as the wise guys will discover that to their surprise when they all start heading for the exits at once. Same thing that happened back in Aug/Sep of 2011. The true smart money always leaves the party a little early, leaving the last 5% or so of a rally on the table. Consider yourselves warned.

  15. ben22 says:


    not sure, never looked into it,……keep in mind when Dow originally developed this he did so based on the “rail average”….speaking of how things have changed.

    even the basic way the dow theory is viewed by todays practitioners has changed quite a lot since the days of Dow and Hamilton, who used the measures as economic barometers for the entire economy rather than as a tool for investing

    In any event

    Edwards and magee has two large tables for Dow Theory trades that encompass the ‘long term’, one that is long only and one that is both long and short…..the edition of the book that I have only goes up to 2005, however.

    One Dow Theorist I follow, Robert Colby, has a long term buy and sell record of his own which involves 68 total signals over the last 112 years, just scroll down a little bit to see them all:

    he also offers some “new” ways of using DT on that site as well, for those that might be interested, DT in its most basic form is viewed by many practitioners today as not adequate enough for making investment decisions.

  16. AHodge says:

    i timethe market by getting out when i am really nervous
    ideally fairly early at the start of a big slide
    but get back in again if it looks better
    i amout of US mostly except some specialty stuff
    and short europe
    even for very long term lazy investors like my kids
    i suggested they lighten up a lot

  17. AHodge says:

    it it possible for smart people to get timing really wrong
    Ben Stein wrote Time the Market, not a bad book
    then managed to be publically long all the way down in 07 09

    i think having everyone know where you are
    tends to create a major extra challenge to being objective
    normally the business cycle works for timing
    but this is so not a normal business cycle for Europe and US

  18. capitalistic says:

    QE has had a duel impact: Cost of capital has decreased, at the expense of asset appreciation. However, given the current flat top line rate (and projections), investing in an asset might create some appreciation, but that appreciation is manufactured. This actually causes investment decay.

    I’ve seen this across the lower middle market segment, where managers are demanding valuations as if their companies are growing at a 30% rate. When you hold their feet to the fire, they will only commit to a 10% > growth rate.

    This is also present in the fixed income market, where “distressed” companies are over-valued, thanks to the current yield thirst.

    We’ve reversed our investment strategy, and have incorporated physical commodities trading, particularly rice, petro derivatives. It’s beautiful, steady, and “safe” trade for us.

    Caveat emptor

  19. PeterR says:

    Wild ride (with seat belts fastened) but SPY closed above MA(50) by a bit. Support to hold?

  20. Frilton Miedman says:


    Thank you for the link.

    BR recently posted a blog on how the T’s have been lagging, I suggested simply getting long T’s and Short SPX for a mean reversion/arbitrage play.

    A few years back I started to employ the concept Kyle Bass used to foresee the CDO/credit crash of 2008.

    He simply deduced that home prices were soaring far faster than wages could support them, then researched the components of CDO’s (predominantly sub-prime/liar loans) and concluded that mass defaults were inevitable.

    In general terms, He looked at consumer buying power vs income factoring debt and costs of living.

    Though Transports help finding tops in the short term, go to the source, evaluate middle class net worth including debt, income & costs of living.

    Fed policy & limited stimulus/tax policy are the only things keeping this market afloat since 2009, by freeing up debt and disposable income through mortgage refi’s & cheap loans.

    As with 2008, there are stimulative limits to cheap credit, Marriner Eccles wrote about it in his 1951 memoirs.