March 2020 seems a very long time ago. Over a year ago, the markets had dropped 30% in just 20 trading days to make it one of the fastest bear markets dropped ever. The drop was so severe and the panic was so substantial that there was calls to shut down the stock market! Blood was truly in the streets.
Fast forward to today and the complete opposite has occurred. There is total euphoria in the markets. Markets have rocketed from the lows of March 23, 2020 to todays heady heights. The Dow Jones Index is up 80%. The S&P 500 is up a similar amount. The Nasdaq is up over a 100%. The FTSE100 and 250 are up 40% and 65%. The Dax is up 70% whilst the Nikkei is up a similar amount.
Most major indexes are at or close to record highs. It is fair to say no one so the speed and length of this market rally occurring in the dark days of March 2020. But a mixture of fiscal and monetary policy together with a feeling of optimism and greed have taken the markets to where they are today. Stocks are the only game in town.
For investors approaching retirement, the current bull market is a welcome bonus. They can cash in their retirements whilst markets are at record highs and ride in to the sunset. (The question is where they would put the cashed in amount with interest rates at record lows thus affecting annuity rates etc).
On the other hand investors still at the beginning of their working lives, or those still saving for retirement, should hate the record stock market run. Things have just gotten more expensive with stock valuations at the higher end of their historical norms.
Valuation is extremely critical when considering whether or not to purchase a specific stock. It determines your overall performance on your investment including your total return and yield on cost. To be a successful dividend growth investor, one must not only consider company fundamentals, dividend security, yield, dividend growth metrics, balance sheet strength and the like before purchasing a stock but must also strongly consider the price you’re going to pay for that stock.
Even the best companies in the world can be too expensive, and if you pay too high a price, even for high quality, you will suffer for it in the way of reduced yield and a low overall return.
Just look at Microsoft as an example of this. There is almost no business in the world that is as great as Microsoft. If presented with a scenario where I could make ten investments at fair value to hold for a lifetime, Microsoft would be one of the slots. Its software products for individuals and businesses have given it high profit margins on business lines that grow increasingly entrenched over time while achieving double-digit sales growth.
When looking at a company like Microsoft, there could be the temptation to buy it at any price due to its sticky customer base, high recurring revenue figures, bullet proof balance sheet and immense runway for growth.
But valuation matters! Take an investor who bought Microsoft shares in 2000. Like most tech stock, Microsoft was trading at crazy valuations during the dot com craze. The investor who bought Microsoft in 2000 and held it through 2010 would have experienced a negative seven percent annual returns per year!
So if you invested $1,000 into Microsoft stock in 2000, you would have had $480 in Microsoft stock ten years later. The crazy part is Microsoft was actually growing at 16% a year during this period! But the investor still managed to lose over half their money during this period as the starting valuation was crazy high. Valuation matters!
So what is an investor to do?
With markets at record levels and valuations as high as ever, should investors imply stop buying and wait for a correction to happen?
There is a great Peter Lynch quote which is apt for the current environment “Far more money has been lost by investors trying to anticipate corrections, than lost in the corrections themselves.”
Like Peter Lynch and many great investors, I believe market timing is impossible. I would not even attempt to try it. Instead I believe in purchasing stocks in high and low markets, through my monthly stock purchase programme from the money I receive from my day job. This has been my modus operandi since I started this journey, and will continue to be until I’m finished.
I believe in just about every market there are overvalued securities and undervalued securities. I don’t believe the market is completely efficient, and there will always be under-loved and under-followed stocks.
Have a look back at my monthly stock purchase posts to see that in every month there were at least a few stocks that were attractively valued. I even managed to bag a company I have admired for a very long time Just a couple of month ago; Unilever. It could be argued that Unilever was an absolute steal in late February/early March. Saying that in this market is truly something. But it just goes to show there are opportunities out there for investors in individual stocks.