Is the Party Over For Equities?

As the bull market ages, each “correction” must be taken more seriously because at some point it will turn into something worse. So far, with the exception of some Euro shares and some US equities, this has been nothing more than a normal correction (-7% from the high a few weeks ago) with a bit more than normal volatility. A lot of the future health of the markets depends upon the underlying economy and corporate earnings. The economy has been and continues to run at a low rate of growth, so current weakness in Europe — where it appears recession is likely — is giving investors concern about global growth in general as well as the profit cycle — hence the recent correction in stocks prices. If global economies worsen and fall into recession, markets will decline further than a normal correction and a bear market will be upon us. As you know we are active investors and unlike most advisors, our team puts a great deal of effort into risk management. If you have been with us over the past 5 years you have experienced a significant increase in your wealth. We want to protect those gains and the last thing we want is to let those great profits evaporate in a bear market — as many other investors allowed to happen in 2008.

Part of our Active Risk Management strategy is to use stop loss orders to mitigate declines beyond a normal correction. Some of those stop losses have already been executed, reducing your stock exposure a bit. Many are getting closer to being executed, which would reduce your exposure even more — thereby reducing the risk of a more significant market decline. Selling stocks or buying them back is inexpensive and easy — recovering from a catastrophic decline is a huge challenge which our team is making every effort to avoid.

As mentioned in our prior Strategy Updates, we believe that the global economy is in the “bottom of the 7th inning” and that there is room left to the upside. However, one never can predict — even with some of the best research on this subject — whether our forecast is accurate or if ill economic winds suddenly turn the “7th inning” into the “bottom of the 9th.” For that reason, we are watching the markets closely and have our stop loss orders in place to reduce the risk of the unexpected or unforeseen environment.

Hopefully markets settle down, find some stability, and march to new highs by year end — and there is a great deal of data that supports that possibility, as we noted in our last update. In the meantime, we remain active in the management of your portfolio and it allocation to stocks, sector exposure and of course the stop loss orders.

We hope you find this brief update helpful. If you have experienced any recent changes in your finances, please let us know.

Sincerely,

Your Team at Main Street Research