Introduction and Perspective
This is the 15th year that we have produced an annual report to investors. Eight of those reports were actually produced by Paul Krsek while he was with Edward Jones. This is the 7th report produced by K&A Asset Management, LLC (K&A).
Each year we look back on reports from past years to refresh our perspective. We notice that the tone of our reports really started to change after 1998. From 1991 to 1998 they were extremely bullish. Take this excerpt from the 1991 report as an example, “I believe that this decade will most likely see gains in the markets to match those of the 1980’s…. If we accomplish in the 1990’s what we did in the 1980’s, a rise of 3 ½ times takes the Dow Jones Industrial Average to 10528. Sound crazy; well remember how 3000 sounded when we were at 700 (in 1982).”
Now that is optimism! By the way, we closed the decade of the 1990’s with the Dow Jones Industrial Average at 11,391.
Compare that to this comment from K&A’s first report in 1999, “We can also make a fundamental case that most stocks providing market leadership are extremely expensive by historic standards. Many of the global economic problems that triggered the collapse of the major averages in October 1998 still exist. We are writing this on January 9, 1999 and believe the broad U.S. stock market to be at least 20 percent overvalued. The question becomes, “So what?” That has been the case since 1995. The markets have continued to rise as investors have generally accepted paying premium prices for quality stocks. Therefore we do suggest caution as investors allocate funds to the market in 1999.”
Keep that comment about “extremely expensive” in mind as you read on. We are starting this year’s report with a little history lesson to orient you to our point of view for 2005. So bear with us for a moment.
On the day we wrote that report the S&P 500 was at 1272. Today, December 18, 2004, it is BELOW that level at 1194. The NASDAQ Composite index was at 2320 and today is BELOW that level at 2135.
K&A came into being on July 17, 1998; at a time when The Great Bull Market, which began in August 1982, was ending. Yet, hardly anyone recognized this fact as early as 1998. We hadn’t yet gone through the last great convulsion of the bull market during2000. Only in its aftermath did reality start to sink in for most investors.
We have been dancing on the head of a pin regarding the stock market since 1998. We believe that the broad stock market has been overvalued for the entire period from 1998 through the present day. That is the reason that stocks make up a minority position in most portfolios managed by K&A. We have been dealing with this fact for years now and it continuously influences our thinking. Take a look at these excerpts from previous annual reports.
On November 5, 2000 we wrote, “Simply stated, the market is overvalued when compared to historic norms.”
On September 20, 2001 President Bush delivered his first speech to the nation after the 9-11 attack on the World Trade Center. That night we wrote our newsletter and in it we said, “The market mavens are all talking about the U.S. stock markets being deeply undervalued…. We disagree. Based on current earnings the S&P 500 and the DJIA are probably approaching fair value—for the first time since 1994…. The NASDAQ is still significantly overvalued, given current conditions in the world and U.S. economies.
On January 6, 2002 we wrote, “The markets continue to be significantly overvalued. Price to earnings ratios remains extraordinarily high for this point in the market cycle.
On January 14, 2003 we wrote, “We remain almost as skeptical about valuations of the overall U.S. stock market as we were a year ago. We expressed that concern last year. In our opinion the U.S markets are significantly overvalued. Valuation standards have changed dramatically in the past 10 years. What seemed expensive to most people back in 1990-91, now seems quite normal. We frankly haven’t made the adjustment. We tried and we didn’t like it. Nothing good came out of trying to ignore meaningful rules of valuation.”
When we wrote our forecast for 2004 we are finally equivocating by saying, “It is “unknown” yet as to whether the broad U.S. stock market is a little overvalued, or substantially overvalued. It is certainly not undervalued.
Which brings us to the present day, and we just wrote on December 3, 2004 that, “At 1250 the S&P would be trading at 17.36 times 2005 earnings. Not exactly cheap, but by recent standards, maybe not wildly expensive either.”
We have gone from “overvalued” to “significantly overvalued” to “not exactly cheap” over the course of 7 years. Despite wild moves upward and downward, we have never felt that the broad stock market has ever gotten cheap enough to provide investors with an excellent entry point. As far as we are concerned that last cheap entry point into the U.S. stock market was in 1994. It isn’t that investors haven’t been able to make money in stocks since 1998. They have. Certainly we have. However the path to success has not been easy. Neither has it always been obvious.
If the U.S. stock market is over valued, does that imply there may be investment alternatives that offer greater opportunity for consistent returns? We believe that to be true. Many of our client’s portfolios are currently more diversified than they have ever been in the past. The days of portfolios being comprised only of U.S. stocks, bonds, and cash, like those that thrived in the 1990’s, have been over for quite some time.
K&A clients now find themselves diversified into foreign stocks, commodities, precious metals, currencies, and real estate.
Now, let’s look ahead at the global economy and our expectations for various asset classes during 2005.
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