Value Added


Missing the Bull Market

Steven Goldberg

Money has been flowing out of stock funds since 2008. Investors have been buying bond funds, bank CDs -- and emerging-markets stocks.



Suppose they gave a bull market and nobody came?

That's what has happened over the past 3½ years. From the bottom of the bear market on March 9, 2009 through October 8, Standard & Poor's 500-stock index returned a cumulative 132.2% (or 26.5% annualized). Yet, from March 2009 through August 20 of this year, investors have yanked out $89.3 billion more than they've put into U.S. stock funds, Morningstar reports.

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To be sure, investors began their withdrawals from U.S. stock funds before the bear market touched bottom in 2009. Money began hemorrhaging in 2008, after the onset of the bear market on October 9, 2007.

Initially, it was a mere trickle -- just $2.6 billion departed U.S. stock funds in 2008. (All numbers in this article refer to net flows -- that is, they take into account money going into as well as out of a category -- and include money going into and out of exchange-traded funds as well as regular mutual funds. All figures are from Morningstar unless otherwise specified.)

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The next year, 2009, saw record net outflows of $33.7 billion. In 2010, $29.7 billion was withdrawn, and in 2011 U.S. stock funds lost $32.6 billion. This year, through August 20, U.S. stock funds have shed $21.7 billion.

Where have investors stashed their money? In bond funds and "safe" bank accounts. So far this year, $242.3 billion has poured into bond funds. Since the start of the bull market in stocks, investors have bought a staggering $1.02 trillion in bond funds. And the Federal Reserve reports that the total amount in bank saving accounts climbed nearly 5% in the second quarter, to $6.9 trillion, from the previous quarter -- the highest level since the Fed began keeping records in 1945.

The problem with this flight to presumed safety is that investors will have a difficult time keeping up with inflation unless they put more money into stocks. What's more, bond yields, which move inversely to their prices, are at near-record lows. No one knows when a bond bear market will start, but bond yields -- particularly for Treasury bonds -- have little room left to fall. When a bear market in bonds finally occurs, it's likely to be excruciating for investors.

Investors deserting U.S. stock funds have also been buying emerging-markets stocks. Since March 2009, they have purchased a net $189.0 billion in foreign stock funds. The vast majority of that money -- $136.6 billion -- has gone into emerging-markets stock funds.

These investors have hardly done badly in overseas bourses, but they would have done better at home. Since March 9, 2009, the MSCI EAFE foreign stock index returned a cumulative 91.3% (19.9% annualized) and the MSCI Emerging Markets Stock index earned 127.4% (25.8% annualized) -- that's good, but not as good as the returns from U.S. stocks. What's more, foreign stocks and emerging-markets stocks have lost money since January 2011. Yet investors have added money to emerging-markets stock funds every year since 2009, including this year.

The sad fact is that it's unsurprising that investors have deserted U.S. stocks in droves. It has been a long, horrible slog for equities. The S&P 500 lost 47.4% in the 2000-02 bear market. It moved briefly to new highs in 2007, but the 2007-09 bear market, the worst since the Great Depression, saw the S&P tumble 55.3%. Consequently, since New Year's Day 2000 through October 8, the S&P has delivered a total return of only 25.8% (or 1.8% annualized).

But protracted bear markets are nothing new. The market posted similar decade-long declines in both the 1930s and during the stagflation of the 1970s. Both times, many individual investors abandoned stocks for years and years even as subsequent bull markets drove share prices ever higher.

So it is today. But just as investors became euphoric over tech stocks in the late 1990s, when the stocks were already at ridiculously high prices, so they have given up on U.S. stocks in recent years.

After the huge gains of the past 3½ years, the S&P trades for 16.6 times the past 12 months' earnings. Historically, the S&P has traded at an average of 16.9 times earnings. So U.S. stocks are fairly valued. Meanwhile, foreign stocks in both developed and emerging markets are cheap, changing hands at 11.8 and 11.4 times the past 12 months' earnings, respectively.

Steven T. Goldberg is an investment adviser in the Washington, D.C. area.


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