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THE following is an excerpt from Kirr, Marbach’s Q4-2012 Client Letter at kirrmar.com.
Stocks posted strong performances in 2012, with the S&P 500 tallying a total return of 16 percent. As always, these gains were extremely hard to come by as investors’ confidence and resolve were tested by sharp sell-offs from early April-early June and following the election in November.
Investors who heeded FDR’s advice, “when you get to the end of your rope, tie a knot and hang on,” were amply rewarded for enduring the pain and staying the course.
Even with robust gains in 2012, we think the overall U.S. stock market is reasonably valued, particularly given the historically low level of interest rates.
As contrarians, we view it as a positive that investors’ collective mindset continues to be dominated by widespread fear and doubt. While this dour outlook is certainly understandable, given the serious challenges and the media fanning the flames 24/7, it has been extraordinarily costly to many investors.
We are sanguine on the stock market’s prospects for 2013 because sentiment remains negative and related expectations for economic growth in the U.S. and overseas are overly pessimistic. The overall pace of growth in the U.S. remains slower than we (or the Federal Reserve) would like to see, but the overall recovery from the Great Recession has broadened to the point where it should be much more sustainable and less susceptible to shocks.
While the Eurozone is in recession, the change in focus from a contractionary austerity policy to a policy promoting economic stimulus should help.
Borrowing costs for governments throughout the Eurozone have dropped significantly. Similarly, China has been easing its economic policy, which should promote growth in 2013.
We agree with skeptics who point out with corporate profit margins near historical highs, earnings growth will be harder to come by.
However, we expect as confidence regarding the global economy improves, the market’s earnings multiple has ample room to expand. Further, as long as earnings continue to grow (i.e. even if slowing), the environment for stocks should remain positive.
We continue to believe the risk/reward proposition for U.S. Treasury securities is unfavorable. If investor confidence and appetite for risk improve, rates are likely to move higher. Indeed, as the stock market started 2013 on a firm note, the yield on the 10-year jumped to the 1.9 percent level. We think some investors who have piled en masse into an asset class perceived as “safe” may be in for a costly education that as rates rise, bond prices fall. You can indeed lose money in “risk-free” bonds.
Stocks have started strong in 2013, with the S&P 500 reaching a five-year high. No doubt part of the explanation is the “fiscal cliff” crisis was averted, albeit temporarily and at the very last moment.
Unfortunately, it is likely investors will have to endure other trips to the precipice of doom during the months ahead.
The next crisis could be the U.S. debt ceiling, or it could be something else. It is vitally important we maintain an unemotional, disciplined approach, especially during difficult times.
Mickey Kim is the chief operating officer and chief compliance officer of Columbus-based investment adviser Kirr Marbach & Co. He can be reached at 376-9444 or firstname.lastname@example.org.
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