The Dow Jones Industrial Average closed at a new record high the first week of March, breaking its previous closing high reached in October of 2007. The new record is symbolic more than anything else, but it still has some positive implications for equity markets.
Confidence is returning to equity markets
The Dow’s new high is a reminder of how far markets have come in the last four years. We also follow broader indices such as the S&P 500® and the Russell 1000®, and they have all recovered sharply since 2009. The fact that one of these indices hit a new record high is important mainly due to the headline and psychological power associated with it.
We are seeing a return of confidence to equity markets, and the Dow’s new high adds to that confidence. Other indicators also suggest investors are more confident about equity markets. The CBOE Volatility Index (VIX) has fallen significantly, as have stock correlations. This could be a good environment for long-term investors, because it means business fundamentals potentially will drive future returns more than macroeconomic headlines.
Going forward, we remain bullish. The S&P 500® is near 14-times consensus 2013 earnings per share. This does not seem stretched compared to historical valuations, especially in light of today’s low-yield environment. These valuations seem even more attractive considering the future potential of U.S. companies as they start investing and growing their businesses.
Many of the companies we speak to have strong balance sheets, but are not investing in their business because they remain cautious about the uncertainty in Washington. It is possible that the greatest stimulus package the government could offer would be real progress on our debt issues. If politicians can show they are simply on the path to a solution, the impact on confidence at the individual and corporate level would be powerful and could help equity markets further. We saw this in Europe last summer. European economies still have their problems, but markets rallied after the European Central Bank instilled confidence that it was at least starting down the path of solving its debt problems.
Time to get off the sidelines?
Fear has kept many investors away from equities over the past four years. But with interest rates low, these investors need to return to equity markets to achieve their long-term goals. As they struggle between fear and need, the headline power of the Dow reaching a new high should help give them more confidence to make that important decision and get off the sidelines.
We think now is a good time to do so. Equity valuations are not particularly demanding, especially in light of a low interest rate environment and the potential that could be unleashed if U.S. companies start investing and growing their businesses.
With confidence coming back to equity markets, we believe the investment environment could become even more favorable, especially for fundamental stock picking. Portfolios based on fundamental, bottom-up research don’t need robust economic growth to do well. They need markets to focus on fundamentals and reward the businesses that can outpace their competition. When markets are calm, and macroeconomic fears take a back seat, those company-specific issues tend to drive markets.
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The views expressed are those of the Janus investment team. They do not necessarily reflect the views of Janus portfolio managers or other persons in Janus’ organization. These views are subject to change at any time based on market and other conditions, and Janus disclaims any responsibility to update such views. No forecasts can be guaranteed. These views may not be relied upon as investment advice or as an indication of trading intent on behalf of any Janus fund.
Statements in this piece that reflect projections or expectations of future financial or economic performance of the markets in general are forward-looking statements. Actual results or events may differ materially from those projected, estimated, assumed or anticipated in any such forward-looking statements. Important factors that could result in such differences, in addition to the other factors noted with such forward-looking statements, include general economic conditions such as inflation, recession and interest rates.
Stock represents ownership interest in a company. Stock investments have the potential to deliver high returns. However, with that potential there are also some risks. The value of equity securities fluctuates in response to issuer, political, market, and economic developments. In the short term, equity prices can fluctuate dramatically in response to these developments which can also affect a single issuer, issuers within an industry or economic sector or geographic region, or the market as a whole. Their performance has historically been more volatile than other asset classes.
S&P 500® Index is a commonly recognized, market capitalization weighted index of 500 widely held equity securities, designed to measure broad U.S. equity performance.
Russell 1000® Index measures the performance of the 1,000 largest companies in the Russell 3000® Index.
The Chicago Board of Options Exchange (CBOE) Volatility Index (“VIX”) shows the market’s expectation of 30-day volatility. It is constructed using the implied volatilities of a wide range of S&P 500 index options and is a widely used measure of market risk and is often referred to as the “investor fear" gauge.
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