The market was open, the market rallied. Here is how we look as of Mid-May:
Top 20 had a good week, rallying 3.39%, which was 1.27% more than the S&P 500. In May, it is up 7.06% compared to the S&P 500's increase of 4.56%. We obviously have more work to do, but the model, which has increased 135% since its inception in May 2008 (compared to 35.5% for the S&P 500), has gone through several periods of underperformance followed by recovery, and I remain confident in the process and await a better outcome.
Conservative Growth/Balanced, which is a little underweight stocks, lagged slightly, rising only 0.78% compared to a 1.14% gain in its 60% stock and 40% bond index. The model is outperforming its benchmark in May and in Q2 (and over any time-frame).
Sector Selector ETF had a rough week, increasing just 0.4% compared to 2.12% for the S&P 500. The main culprit was the bet on gold stocks.
At year-end, I was very bullish, suggesting on this blog that the S&P 500 could reach 1664 by the end of 2013:
OK, so how do I get my 1664 target on the S&P 500? This would be a 16.7% increase (almost 19% total return). Hey, it's not as optimistic as my 1600 call when the S&P 500 was 1258 a year ago! Still, it's an all-time high. Part of how we get there is clearly more favorable momentum. Individual investors have been pulling money out of stocks for years now and plowing into bonds. I have been early on this one, but, sadly, most people like to buy high and sell low. As we approach the first big hurdle of Dow 14K or S&P 500 1500, the media will start to trumpet stocks. If we get close to the all-time high of 1576 on the S&P 500 (keep in mind that this is only 10.5% higher), we should see a feeding frenzy. Now, this is all sentiment. What about valuation? How can we rally 16.7% when I think that earnings growth is likely to be just 8% or so? The math works like this: A year from now, what will the 2014 S&P 500 earnings estimate be, and what multiple will the market pay. My outlook is modest on the latter and conservative on the former. I am using a shade under $115 for the earnings (there are higher estimates and this is about 8% growth over the next two years) and just 14.5PE (up about 1PE). So, 16.7% price appreciation coming 1/2 from slight multiple expansion and 1/2 from what I call "the passage of time".
Now that we are here, what's next? As I always say, I have no crystal ball. For now, I am leaving my target for year-end here, but I think it's quite conservative, especially if the economy does begin to accelerate. The current forecast for 2014 is perhaps higher, with "top-down" forecasts now at $116 and "bottom-up" closer to $123. The latter tends to be reduced over time. If one assumes $120 and that the market will trade at 15PE, it could end the year near 1800. I share this not because it's a forecast, but to point out how much higher the market could go.
In the very short-term, I am cautious, but I am not so sure my caution is warranted. It is based solely on my view of "technicals", or the price action. Longer-term investors shouldn't be so concerned with narrow flutuations in the market but perhaps can use their short-term views tactically. In other words, just because I am cautious right now doesn't mean that I am suggesting anyone should sell all their stocks. Rather, to me, this just means to be patient investing. For trader-types, perhaps it makes sense to place some short-term bets. I do want to be clear: The climate for stocks is fantastic. They are still reasonably valued if not cheap and sentiment is cautious beyond me! This is not a frothy market, just a little ahead of itself.
As a reminder, Top 20 is always fully invested. I set it up with a requirement that cash be no higher than 10%. If I thought the market was going to pull back 5% (which is my expectation), this could add 0.5% to the return if I were correct. It's really not something worth pursuing. With Sector Selector ETF, I do have some lattitude, and if I were really bearish I would position appropriately. With CG/B, where we are,at 49%, near the minimum of 45% stock exposure (against a 60% target), it's less about a market call than about conservative stocks being somewhat expensive compared to the rest of the market.
Have a great weekend!
Alan Brochstein, CFA