Why The Stock Market Is Not In A Bubble

The big news in the financial sector these days is, of course, the stock market.  With year to date returns already over 15% (and counting), many out there are jumping in and proclaiming that the stock market is in a bubble and proclaiming that the bubble will burst.

I’m not buying it.

Or selling it, I guess would be the right term 🙂

Many of those who think we’re in a bubble use some combination of the following arguments to state their case:

  • The big run in the stock market has taken all opportunity away
  • Unemployment is not falling fast enough
  • Corporate profits are leveling off
  • Europe and Japan are in a recession
  • Our mounting national debt

Here’s my take on each of these

  • Opportunity is not fully priced in –  When the economy and the market tanked in 2008-09, many people left the market altogether.  While many have returned, there’s still a lot of money sitting on the sidelines.  Some of those jaded investors may never return to the market, but I still think there are many investors who would consider re-entering the market.  There is upside
  • Unemployment is fine – One of the things that’s separated this recession from many others is that unemployment did not fall at the end of the recession.  Many argue that’s a bad thing, but I argue that it’s a good thing.  Companies aren’t just hiring en masse, but only hiring when they need positions.  I’d feel comfortable saying that the jobs being created today are more likely to stay in the event of a slowdown.  I think the job market is building a much more solid foundation, so while there are less jobs, I think they’re a sign of long term stability.
  • Profits are only one piece of the puzzle – Many companies are making record profits, but the rate of profitability is slowing.  First, this is to be expected as many companies are returning to profitability after suffering losses, so the first jumps are always the strongest.  Second, and more important, is even if profit growth does slow, many companies are continuing to strengthen their balance sheet.  They’re adding more cash reserves.  They are paying off debt.  They’re investing in new technology.  These are all things that will provide profitability way down the line, something that investors will pay a premium for.
  • Europe and Japan are less important – The crisis in Europe probably isn’t done and we’ll here more bad news along the way, but it seems to me, that compared to 18-24 months ago, Europe has leveled off.  If investors believe that the worst is behind, they will not discount stocks whose companies are exposed to Europe.  If the economies of those countries start actually showing signs of recovery, investors will be rewarded further.  As far as Japan, they’ve been in such a rut that I’m not sure they factor in much either way.
  • The Fed has the debt covered for now – Eventually the debt will catch up to us, but for the time being, I think the debt is a non-factor.  The Fed is keeping interest rates down, and there are signs that the national deficits will actually start falling, meaning that we’ll be adding less to the debt than we have in years past.  I fully expect this to be something that hits us hard down the line, but for now, I believe the risk is minimal.

These are simply my thoughts (I’m no investment professional) and I’m hoping that this leads to continued upward momentum in the stock market as I’d like to see some additional gains in my 401(k) and personal portfolio.

How about you, what do you think about the stock market and its chances for continued success in the short and long term?

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