Despite the recent pullback in the markets, we have come a long way from the depths of the bear market lows seen back in March of 2009. History has shown that the period just after the turn in the markets can be quite irrational. Often times the stocks with the worst fundamentals will outperform those with the best fundamentals. This latest rally has been no different. Partially due to panicky short covering and trading related to that, the lower quality stocks have lead this initial climb off the bottom. Over time, however, market history has shown that investors will come back to the high quality stocks and they will eventually resume leadership. I believe this trend will continue during the next stage of our current market cycle. Let’s look at some interesting studies that illustrate this point:
According to a study by Ned Davis Research Group, dividend paying companies have dramatically underperformed those with no dividends since the March 2009 bottom. In addition, companies with earnings have also dramatically underperformed those with no earnings! Another study took a look at the rally in the lowest priced stocks, those selling for under $5 a share. Wall Street regards these stocks as “junk stocks.” They typically have lousy fundamentals and have been beaten down by short sellers. From the March 9th low of 2009 through the end of August 2009, stocks priced under $5 outperformed stocks priced over $50 by 400%.1 Now you can understand why some have referred to the initial move up in the markets in 2009 as a “junk” rally.
So will high quality, dividend paying stocks have their day in the sun? History shows that they should. Another study by Ned Davis Research Group looked at bear markets and subsequent rallies going back to the 1970’s. An interesting pattern emerged. The higher quality, dividend paying stocks typically outperformed during recessions and bear markets. However, once the recovery started, the dividend paying stocks had a period of underperformance for the first six months or so. After that, the higher quality stocks that paid dividends resumed their outperformance.1
With all this in mind it is time to focus on the fundamentals. I would recommend investors review the funds and/or stocks they own. Be sure you have a healthy exposure to the types of “blue chip” stocks I have described. High quality companies with good earnings and clean balance sheets should outperform going forward. The dividends that these companies pay on an ongoing basis will also help dampen any price volatility and will likely be a substantially part of the total return an investor enjoys from these investments over time.
1. Pioneer Perspectives, After the Turn: Avoid Mistakes in Irrational Markets, November 2009
Damien helps individuals invest and manage risk. He is a Certified Financial Planner™ professional and an Investment Adviser Representative of, and offers securities and investment advisory services through, Financial Network Investment Corporation, Member SIPC 1850 Mt. Diablo Blvd., Suite 170 Walnut Creek, CA 94596. These are the views of Damien Couture, CFP® and should not be construed as investment advice. All information is believed to be from reliable sources; however we make no representation as to its completeness or accuracy. Not all recommendations are suitable for all investors. Each investor must consider their own goals, time horizon and risk tolerance. Your comments are welcome. Damien can be reached at 925-280-1800 x101 or dcouture@jbcfg.com.