What To Do When Things Are Nuts In The Markets?
David Merkel | May 19, 2013 03:53AM ET
I have not been a fan of this rally, and I have been selling into it. I do have a rule for equity clients — cash never goes above 20%. I have been close to that recently, industry selection and other factors, like balance sheet strength and reliability of cash flows as my main risk reduction tools rather than outright reduction of equities owned. In general, I have been a good picker of stocks over the last 13 years, and I want to continue using that advantage.
With bonds, I am playing it safe with short and intermediate corporates, and taking reasoned chances with emerging markets debt. Beyond that, I am thinking of buying long Treasuries as a deflation hedge.
The equity market is well above where long-term valuation measures like the Q-ratio, and CAPE10 would value it. Most of that is due to low interest rates and high levels of QE. How certain are you that both will persist, and for how long? Personally, I think both will persist for some time, but not forever. Profits attract competitors, and low rates discourage savers.
Though we don’t know when change is coming, we have to be ready for change. Whatever you do for defense, make preparations now to be defensive; this era and valuation levels will not persist.
Aside from that, remember that when a system is so artificially supported, it relies on peace & continued support from governments. Either could vary. Peace is not certain, and neither is the current set of economic policies. Be ready, because there can be all manner of surprises.
Full disclosure: long BRK/B, IM, VR, AFL, CST
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