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I just read in the wall street journal that by historic measures, using the cape, the foward p/e, and the Fed model that large cap stocks are very overvalued. Foreign stocks, and smaller stocks are not. Do you think we should have a slight tilt towards foreign and smaller stocks?

I don't have an opinion on that, but

FWIW, I just read an article that proposed that a lot of money moved from stocks to fixed income when you could get a solid risk-free 5%+ yield, thereby making stocks fall.

And that now that rates are dropping below 5%, with more rate cuts coming from the FED soon, that the money that fled to fixed income will start flowing back into the stock market.

Remember, the saying that "The market can stay irrational longer than you can stay solvent" cuts both ways.

FWIW, I just read an article that proposed that a lot of money moved from stocks to fixed income when you could get a solid risk-free 5%+ yield, thereby making stocks fall.

Yeah, except where have you seen stocks fall?

The market hit its recent bottom in Oct. '22 and has risen more than 50% since then. And the Fed raised its benchmark from 3.25% to 5.5% from Oct. '22 to Jul. '23. Immediately after the Fed finished raising its rate to 5.5% the market had a brief 10% correction, after which it resumed its upward climb. Since the moment interest rates reached 5.5%, the market is up 20%. You'd be hard pressed to find the claimed correlation.

Elan

Another view:

Yes, it seems that US large caps are more richly valued than has been historically typical, and that effect extends to the cap weight indexes they dominate.
And yes, the valuation gap between those biggies and the non-US and/or smaller cap equities seems to be bigger than what's historically typical.
Those conclusions can be shown in a number of ways, and are generally pretty extreme these days.

However, it's a big leap from those pretty solid observations to deciding that moving money to a specific different corner of the market will increase your returns. The world is a very difficult place to predict, and even when it seems easy the timing can be impossibly hard.

The way I address that impossibly hard problem is to dodge it. I invest almost exclusively in individual equities that I don't deem to be overvalued, so in theory (!) the broad market valuation level doesn't matter a whole lot. I pick the best I can without much regard to the company size, and it tends to bounce all the way back after any price swoon. If I can't find enough things that seem to be reasonably valued, the cash allocation rises. But it's a whole lot of work to pick a sensible stock astutely, and heaven knows most people get that evaluation wrong a lot of the time (including me), so maybe that's not a good solution either.

Jim

Mark19 wrote:
I just read in the wall street journal that by historic measures, using the cape, the foward p/e, and the Fed model that large cap stocks are very overvalued.

I hate to break this to you, but the Fed model has gone the way of the dodo bird. It is extinct and useless.

Quoting from Wikipedia: https://en.wikipedia.org/wiki/Fed_model
Lack of predictive power
* The analysis shows that the Fed model has no power to forecast long term stock returns
* In 2018, Ned Davis Research ran a test of the Fed model's ability to predict subsequent 10-year returns using data from the previous 75 years. Davis found that "it was basically worthless"
* In April 2014, Dr. Yardeni wrote of his Fed model: "[1997] was just about when the model stopped working as a useful investment tool. "


Do you think we should have a slight tilt towards foreign and smaller stocks?

Since you've also discussed your interest in options plays, and now are asking about other asset classes, here's my advice. I think you should sit down with a financial advisor. It will be worth it to find someone qualified who can tailor an asset allocation that fits your retirement goals. We don't know anything about how far away you are from retirement, how long you need that retirement to last, your annual living expenses, taxable brokerage accounts, IRAs etc, etc. The FA will take all these factors into account and come up with a plan. Find a fee-only fiduciary in your area by doing a Google search.

Good luck.

Thanks for the advise.

I hate to break this to you, but the Fed model has gone the way of the dodo bird. It is extinct and useless.

Quoting from Wikipedia: https://en.wikipedia.org/wiki/Fed_model
Lack of predictive power
* The analysis shows that the Fed model has no power to forecast long term stock returns
* In 2018, Ned Davis Research ran a test of the Fed model's ability to predict subsequent 10-year returns using data from the previous 75 years. Davis found that "it was basically worthless"
* In April 2014, Dr. Yardeni wrote of his Fed model: "[1997] was just about when the model stopped working as a useful investment tool. "


An even better debunking is from 2003, Clifford Asness' article "Fight the Fed Model", which pointed out that it didn't even work *IN* sample - there was only a specific range of dates that it ever looked plausible, it never worked before or since. I recommend finding and reading that article, it has some interesting insights. The biggest is simply that the prevailing interest rates at the time you buy stocks aren't a predictor of the multi-year forward stock returns, but that (duh) the valuation level of stocks at purchase time is an excellent predictor. But there is other great stuff in there, like an analysis showing that the trajectory of stock profits is almost perfectly adjusted for inflation. Which makes some sense: on average, if all parts and labour and sales prices all go up 10%, profits will go up 10% as well.

Jim

I like to explore different investment ideas, but how I invest is very consistent, and has been for a very long time. I have ETFs that track various indexes, large cap US, large cap international, small cap US, small cap international, Large Value, Small Value, International Value, and International small value. I have a bunch of newsletters that have beaten the market historically. For fixed income, I use preferred stocks, and close end bond funds.

At some point, I may venture into DITM leaps, and selling calls and puts, but not right away.

I read about a lot of different ideas, but rarely implement them.

I hate to break this to you, but the Fed model has gone the way of the dodo bird. It is extinct and useless.

An even better debunking is from 2003, Clifford Asness' article "Fight the Fed Model", which pointed out that it didn't even work *IN* sample - there was only a specific range of dates that it ever looked plausible, it never worked before or since.

NOW you tell me? :-)
And I've been posting the Arezi ratio and the Fed ratio for all these years. ;-(

I guess I'll keep posting it out of habit. Caveat emptor!

Elan

https://www.philosophicaleconomics.com/2013/12/the...

I am a great admirer of Philosophical Economics, but this did not work out. Here is the nut graph for stocks at the time of publication (20 Dec 2013)

Right now, at its current value, the metric suggests a future 10 year nominal total return for equities of around 6%.
Historically, whenever the market was at the current level, the low end of the return was a tad less than 5%, and the high
end was around 9%.

GTR1 shows the CAGR of SPY from 20131220 to 20231220 to 11.96%. It has continued to rise since then, and is a hair over 13% now.

Baltassar

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