New york, Dec. 26: Now that the market has risen, investors are becoming optimistic again about stocks. There are many signs of this. The American Association of Individual Investors, for example, reports that most investors now describe themselves as bullish, versus just 20 per cent in July.
And the flood of money that was pouring into bond funds largely out of fear, has slowed to a trickle. After pulling in more than $1 trillion in net investments since the start of 2001, bond funds experienced slight net redemptions from the start of November to the middle of December, according to the Investment Company Institute.
All of this suggests that investors are finally getting their risk appetites back. And it may also be an indication that people are becoming greedy after the easy money has already been made in the market.
It’s worth remembering that even though a strong year-end surge has pushed the Standard & Poor’s 500-stock index up 20 per cent since the start of September, it’s just part of a tremendous rally over the past two years.
Since the bull market began in March 2009, the S&Pn500 has climbed more than 86 per cent. And investments that are considered riskier than blue-chip domestic stocks — such as emerging-market equities or shares of fast-growing but volatile small companies — have done even better during this stretch. Both the Russell 2,000 small-stock index and the Morgan Stanley Capital International Emerging Market index have gained 130 per cent.
“We were told that this was supposed to be a ‘new normal’ era where investors should expect lower returns and shouldn’t take much risk as a result,” says Mr James W. Paulsen, chief investment strategist at Wells Capital Management. “But the performance of risk assets over the past 18 months shows that this was anything but a new normal.”
Risk-taking hasn’t been rewarded over just the last 18 months. Despite all the talk about what a “lost decade” this has been for investors, risky asset classes have actually produced sizable gains over the last 10 years. For instance, though the average fund that invests in large-capitalisation domestic stocks gained just 1.5 per cent, annualised, in that period, small-stock funds returned nearly 7 per cent a year. And emerging-market stock funds returned nearly 15 per cent, annualised, during that stretch, according to Morningstar.
Risk-taking was also well rewarded in the fixed-income markets. While safe government bond funds gained 4.8 per cent, on average, for the past decade, slightly riskier investment-grade corporate bond funds gained 5.4 per cent, annualised, and high-yield bond funds — even riskier — returned nearly 7 per cent a year.
In general, the more risk you took in asset allocation, the greater your relative performance over the past decade, says Mr Jeffrey N. Kleintop, chief market strategist at LPL Financial.
But that can’t go on forever. Mr Sam Stovall, chief investment strategist at S& P, looked at how bull markets have unfolded historically since 1949. He found that while the S&P has soared 35 per cent, on average, in the first 12 months of a new rally, those gains have slowed to an average of 17 per cent in the second year of a bull market and just 5 percent in the third year. Of course, it’s not just investor sentiment that has propelled the market. In a recent strategy report, Mr Brian G. Belski, chief investment strategist at Oppenheimer, notes that strong corporate earnings results and decent news concerning the global economic recovery have contributed, too.