The S&P 500 that represents the U.S. market is near an all-time high which might make stock investors nervous, especially when the market has been trading sideways. What should stock investors do? The short answer is to ignore the market and focus on individual companies. The long answer will come later in this article.
The S&P 500 has been trading in a sideways channel since August 2015. Right now, NYSEARCA:SPY is back at the top of the channel, and if it doesn’t break above the US$208 resistance persistently, it will head back down. If SPY falls past the US$185 support persistently, this will mark the top of the market for the time being.
Investors have been piling on to the consumer staples and utilities as the select ETFs have been hitting new highs. See the Consumer Staples ETF (NYSEARCA:XLP) and Utilities ETF (NYSEARCA:XLU) charts below.
Both the Consumer Staples ETF and Utilities ETF look like they’re losing steam as they hit or are near overbought territories.
What should stock investors do?
As stock investors, the prudent action is for you to review your list of interested companies and make sure to refrain from buying overvalued or fully-valued companies. In fact, depending on your investment goals, you might even take some chips off the table for overvalued holdings.
For example, The Coca-Cola Co (NYSE:KO), the Consumer Staples ETF’s second-largest holding with a weighting of 9.5% is trading at more than 23 times its earnings. Last time it traded at such a high multiple was in November 2007 — 8 years ago! Looking at the fundamentals analysis chart below, Coca-Cola is trading roughly 14% above its historical normal multiple.
Adding that consensus analysts estimate the company to grow its earnings per share by 3-5% in the near future, Coca-Cola simply isn’t worth its lofty valuation in my opinion.
The other top 9 holdings of the Consumer Staples ETF look fully valued, including Procter & Gamble Co (NYSE:PG), Philip Morris International Inc. (NYSE:PM), and Colgate-Palmolive Company (NYSE:CL). However, their growth rates are expected to be at least 7.5%, double that of Coca-Cola’s earnings growth. So, depending on shareholder preferences, they might sell some shares or hold on to them to collect their dividends.
The Utility ETF’s top holdings include common names such as Duke Energy Corp (NYSE:DUK), Southern Co (NYSE:SO), and Dominion Resources, Inc. (NYSE:D). They’re trading at 17.5 to 20 times their earnings with the majority having an expected earnings growth rate of 3-4% in the next few years. So, investors shouldn’t anticipate much capital growth from them.
The only reason I see investors having to hold expensive shares is their need for income. Retirees who live on dividends may be content as long as they continue to receive dividend paycheques of around 3-4% per year from these companies.
As long as these retirees have the resolve to hold on to the shares even when they might fall to more reasonable valuations, they should be fine. However, investors who care about total returns and capital preservation should review their holdings to determine if at least partial sales are reasonable.
Then again, I’m wondering whether it’s because interest rates are so low that retirees are forced to invest in the market for yields of 3-4% even when companies are expensive and earnings growth are slowing. If that’s the case, it may become the new normal that quality, stable dividend growth companies might remain expensive or become even more expensive as the baby boomers retire and shop for yield.
The U.S. market lacks direction until the SPY breaks persistently above US$208 or below US$185. With stocks, particularly in consumer staples and utilities leading to new highs and trading at lofty valuations, investors should review their holdings to determine if at least partial sales are appropriate for their investment goals.
Retirees who do not care about price volatility but focuses on current income might decide to hold on to dividend companies to collect dividends instead. As far as I can tell, all companies mentioned in this article should be able to at least maintain their dividends.
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Disclaimer: I am not a certified financial advisor. This article is for educational purposes, so consult a financial advisor and or tax professional if necessary before making any investment decisions.
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