Market Outlook August 15, 2011

Stocks put in a remarkable performance over the past week, rising 3.12% from 11,808 to 12,542. Anyone who was hoping to reinvest at the bottom may have missed their chance. The VIX jumped to 48 from under 15 during the recent correction. It has already fallen back to 36, indicating that volatility is reduced. Part of that volatility might be another (smaller) drop in the markets; but it might just as easily be the markets recovering and moving back to steady growth.

My fair value calculation for the stock market increased this week. Viewing the TSX website, The P/E of the market is 16.51, even lower than last week, and the dividend yield is 2.67%, higher than last week. I’m not sure why those metrics have improved, unless a number of companies reported better earnings and higher dividends. If that’s the case, it explains the increase in the fair value estimate.

Despite the appearance that stocks are more reasonably valued even than last week, momentum is still not in favour of stocks. Stock markets have fallen more over the past few months than bonds, making bonds appear a more sure investment. At least, that’s where the majority of the money has been going. For an investment based on asset rotation, gold (IGT) still has the best momentum, and that’s where my money remains for the coming week.

The asset rotation strategy has been far better than I expected. When I first put my portfolio in gold, I thought that it was better than the weakness that stocks seemed to be going through. Then, when the stock market corrected over the past couple weeks, it was nice to be out of the market (in that account). Even as stocks recovered over the past week, gold continued to climb. I won’t catch the top or the bottom using the asset rotation (momentum) strategy, but being in the right asset at the right time makes a world of difference. To illustrate using numbers, while stocks dropped 5.23% over the last month, the gold ETF rose 13.92%. The total difference was 19.15% of outperformance. That is not¬†negligible.

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