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Stocks or Bonds?

October 14, 2011 – 5:05 pm

The battle for invested dollars between bonds and stocks is an issue that is never discussed or written about, but one that is pervasive in the investment industry. Every investor has to decide if it is smarter to invest money in a bond which has a surer possibility of a return of not only ‘on’ their money but the return ‘of’ their money. Or is it smarter to invest in a more risky stock where the return has no assurance at all, but can be much higher.

When an intelligent investor is making this judgment call he is measuring the risk and reward factors that sway him one way or the other. Today investors are willing to accept no or a negative return buying 10 year U.S. Treasury bonds with a less than 3% dividend yield. We have seen a flood of money buying these bonds driving down the yield. At the same time the more risky stock market is currently yielding a dividend that exceeds the dividend on a 2 year treasury bond, i.e. over 2% vs under 2%.

With inflation over long periods running at 3% you see just how fearful investors have gotten accepting no inflation adjusted return on government bonds. That fear is also reflected in the below average P/E ratios for stocks. Traditionally the S&P 500 trades at a 15 P/E or higher when inflation is low. Currently, it is 12.

Investors have to make up their minds: bonds or stocks? The stock market is cheap but is it cheap enough? How afraid are they and how long will they be content with just the return of their money with no growth and less buying power due to inflation? Currently, they just want their money not to shrink anymore and U.S. Treasuries seem like a safe place to be. In that lies opportunity away from bonds, if you are willing to accept the risks.

Good Trading
Steve Peasley

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