12 Reasons Not to Fear a Market Bubble

Fear of a repeat of 2008’s crash resonates for investors as stocks and bonds rally to historic highs.

Fear of a repeat of 2008’s crash resonates for investors as stocks and bonds rally to historic highs
By SHARE

6. The housing market is improving. It's a key to stability since it was the cause of the last crash, and its plunge created a perfect storm that froze credit markets and hammered consumer confidence. The bad news is that weak spots remain in real estate. "The housing recovery is not complete," said David Blitzer, chairman of the index committee at S&P Dow Jones Indices when recent home data was announced. Foreclosures remain high, and mortgage rates are going up.

[Pimco's El-Erian: Why 'Zombies Threaten Markets.]

7. Exchange-traded funds include fixed-income offerings that can be "laddered" with short- and long-term debt and other products to result in less volatility for income investors, making it possible for individuals to diversify yields by using low-fee funds. S&P Capital IQ says there is $250 billion invested in fixed-income ETF funds. Half of the funds S&P covers are less than three years old. Investors have shown strong demand for new offerings like the iSharesBond 2016 Investment Grade Corporate Bond ETF, launched in April, and PowerShares Global Select Short Term Bond Portfolio, filed in March. A less conservative move, but one that could pay off if rates rise, are new funds like the ProShares High Yield-Interest Rate Hedged ETF, which is made up of high-yield, short-term debt mixed with Treasury futures designed to gain value as rates rise. In addition, investors already have put more money into floating-rate bank funds than they did during all of last year, according to Lipper.

8. Stock valuations are near historically normal levels based on earnings, which are likely to grow in the stronger economy. The Fed insists it will not boost rates until a recovery has been confirmed. But there may be room to doubt outsized earnings growth. Corporate sales are not rising. "It is not often mentioned that companies are benefiting from operating [profit] margins that are near the highest in history," says fund manager Roumell. The recent years of low rates and hiring cutbacks have created easy profits that will not continue. "If you look at it this way, stocks are a lot more expensive," he says.

9. Fund managers have been aggressively buying low duration (short-term) bonds to fill income needs, which will lessen the impact. The funds will attract new buyers with higher yields when rates rise. That might support the market, but it doesn't mean bond fund investors will reap the benefits. In fact, they should beware of sticker shock. Financial Industry Regulatory Authority Chairman Richard Ketchum recently warned financial advisers to "remind clients that bond funds are not the same as directly owning fixed securities – if the market moves, losses will occur instantaneously and there will be no ability to hold a bond to maturity."

10. Mutual funds that invest in stocks and bonds, like target-date or balanced funds, have reduced exposure to long-term fixed-income debt to soften the impact of rate rises on widely held retirement funds. No downside to caution here.

[See: Why Dow 14,000 Was One of the Market's Toughest Milestones.]

11. Income investors have shifted into dividend stocks, floating-rate funds and real estate investment trusts, which can raise dividends as interest rates rise and inflation increases, or high-yield bonds that do better in a stronger economy. As investors diversify income holdings, the market is vulnerable to a bond crash.

12. Moderate growth and inflation will help the stock market, and a moderate rise in interest rates will help savers. In "the post-crisis way of thinking," people have been "reluctant to embrace views of modest growth and inflation" even though "it's what we now have," Levitt says. On that front, at least, things may really be better than we think.