posted Aug 8, 2011, 2:11 PM by Sam McPherson
Yes, on the surface
things seem grim: Standard & Poor's has
downgraded the U.S.
government’s credit rating, unemployment is high, and it’s still a little too hot
outside. However, I would argue that
things are not as dire as some of the pundits would have you believe. Keep in mind that news organizations make
money from financial drama, and should not be a source of investing advice.
That said, it’s completely
natural to feel unsettled in the current economic environment. However, here are some facts that may help
keep things in perspective:
- Only one agency out of three downgraded
debt. (I also would like to point out that the rating agencies are not
always infallible – consider the high ratings of mortgage-backed securities
– perhaps S&P is trying to make up for its easy grading policies in
- Corporate balance sheets are still
strong: According to Brian Rogers, T.R Rowe Price’s chairman, “There’s a
lot of bad news out there, but corporate America is in great shape
financially. Companies are growing
earnings, buying back stock and increasing dividends.” (T.Rowe Price
Report, Summer 2011)
- Another way to look at this is to view
the value of the entire stock market in context by using the classic
measure of price to earnings, otherwise known as the P/E ratio. As of the market close on August 8,
2011, the cyclically-adjusted P/E ratio for the S&P 500 was 19.3. This is just slightly lower than the
average of 19.4 over the past 45 years.
What this means is that stocks were slightly overpriced before the
recent correction, but are now fairly priced.
So, while some
short-term volatility is to be expected in the coming weeks and months, I
advise you not to panic and certainly not to take any rash action.
So, why shouldn’t I
take any action?
- If you consider how dollar-cost
averaging works, the stocks you are buying now are essentially being
purchased at a discount. So, now is
not the time to get out of the stock market. It would be like running away from
Macy’s in the middle of an amazing sale.
- It is in the nature of markets to be
volatile and if you are out of the market, you won’t profit from the
upswing when it happens.
- Also, if you’ve followed our advice,
you are properly diversified, and stocks consist of only one part of your
portfolio. If you haven’t followed
our advice, please feel free to contact us about your asset allocation.