In the first half of 2014, the U.S. stock market continued its upward trend and has many people wondering “How high can this thing go?” The S&P 500 Index (a representative index for the entire U.S. stock market) increased 6% in the first six months of the year. This is on top of the 32% increase in 2013 and 16% increase the year before. The current stock market surge started in March 2009 and now has run upward for 63 months, the fourth longest in history.
We do not make our living making predictions, leaving that to fortune tellers, palm readers, tarot card readers, and Wall Street “experts.” We do know that, as always, now is a good time to review your investment portfolio and re-balance it if your portfolio holds too much of one asset (stocks) and not enough of other assets (high quality bonds and cash). If your portfolio is divided among these assets in the way you would feel comfortable no matter what the future brings, then you’re fine. If not, then make the changes you need to make in the portfolio that brings it back into line with what you set as your target portfolio mix in March of 2009.
You may hear investment advisers say that investment markets are “efficient.” What does this mean? An efficient market has a large number of buyers and sellers, all the information about a security is known to all the buyers and sellers at the same time and transaction costs are low. For example, the U.S. stock and bond markets are very efficient this way.
In contrast, the residential housing market is very in-efficient. In any neighborhood where there are family houses to buy and sell, there are a limited number of buyers and sellers, the information about a property is not known to all buyers and sellers (typically the seller knows a great deal about their house and potential buyers know very little) and the transaction costs are high (about 10%).
What does this mean to you as an investor? Just this: in an efficient market, there is very little (if any) persistent advantage that a buyer or seller can gain. Yet, this is how the majority of the big financial houses (Merrill Lynch, UBS, Smith Barney) try to sell their services. That is, that they know something that the other participants don’t know. It’s ridiculous, but Wall Street keeps pumping out the same message that is flat out wrong. Better for you and me to stick to the efficient market idea and use low-cost and highly efficient index funds to create a portfolio.