Where Do We Go From Here?

Is the biggest question on your mind “Are we in a bubble?” or “When will the ride come to an end?”

We recently passed the two-year anniversary of the market hitting Great Recession lows.

The Dow is up 84%. The S&P is 92% higher. And the NASDAQ has climbed a remarkable 113% since March 2009.

Hopefully, you have taken part in the rally. You may have even made up for your losses from the market collapse of late 2007 through early 2009.

But asking if we are in a bubble… or if the market will crash soon… is a little foolish.

Here’s why:

No one knows.

It is as simple as that.

We don’t know if we’re in a bubble until it pops.

And we don’t know if the market will correct until it happens.

Look at the current rally.

Doubters have been lining up pretty much since it started.

In August of 2009, a short five months into the rally, Colin Barr said (on CNNMoney.com) “… it may have pumped up another bubble, this time in stocks.”

Barr quoted noted economist David Rosenberg of Gluskin Sheff as saying, “This is the most speculative momentum-driven equity market since the early 1930s.” And Barr went on to say that, according to Rosenberg, “the risk of a market collapse later this year is high.”

In October of 2009, a New York Times article titled “A New Dow Bubble” referenced Breakingviews.com, saying, “long-term measures suggest it is now in a new bubble.”

In January 2010, legendary investor Jeremy Grantham said that a mix of cheap money and rising prices can lead to a speculative and painful bubble. He said the rally up to that point was “a false rally,” and the S&P 500 was worth “850 or so; thus any advance from here will make it once again seriously overpriced.”

And late last year, Richard Russell said, “Everything tradeable, stocks, bonds, gold, silver, commodities in general, are rising. I call it an all-around mega-bubble.”

I point out these comments not to discredit the individuals behind them. I can only hope one day to know as much as David Rosenberg or Jeremy Grantham.

I point them out to show that even the smartest minds in the investing world can’t predict bubbles or time the markets.

So let’s not try to guess what this market is doing.

There are some encouraging signs that the rally could continue. Just take them with a grain of salt. Experts can be as wrong about bull markets as they are about bubbles.

According to Bill Stone, chief investment strategist at PNC Asset Management Group, since 1928 bull markets have lasted an average of five years and gained 164%.

This bull market is at two years and a 99% gain. So by historical standards, there is room to run.

Laszlo Birinyi agrees. He is the founder and president of Birinyi Associates in Westport, Connecticut.

He recently said, “This bull market has the strongest start of any in history. When you have a very sharp rise in the first part of the bull market, those tend to be prolonged bull markets.”

The S&P 500 is trading for 17.4 times earnings. During the “dot-com” bubble, the multiple was 30.6.

And Joe Davis, chief economist at Vanguard, says, “Corporate balance sheets haven’t been in better shape over the last 200 years, period.”

Could the rally continue for another 12 months? Sure.

Could it end tomorrow? Absolutely.

We just don’t know.

The idea is to be in the markets making money when there is money to be made. I recently read a comment on a financial website that said something along the lines of “Not making money is just as damaging as losing money.” I agree.

Look, you don’t have to convince me that things are a mess out there. The federal deficit is ballooning. Food prices are soaring. Home prices are still falling. The dollar is weakening. But the market keeps rising. Even if you have to hold your nose while investing, at least make some money for yourself.

Just have your exit strategy planned out ahead of time.

We strongly believe in the use of trailing stops. These allow you to cut your losses and let your winners run.

We prefer a 25% stop-loss point. In other words, you automatically sell once you hit a loss percentage of 25%. This is based on the high the stock reaches, not the purchase price.

As an example, if you bought a stock at $100 and it shot up to $150, your 25% trailing stop would be triggered if the stock fell back below $112.50.

The bull market will come to an end at some point. You won’t know by listening to the talking heads on TV. But the market will tell you if you use your trailing stops. (You can learn more about trailing stops here.)

Another comment I read recently sums it up best: “The difference between you and the fool is that you know this will end soon and are sitting near the exit. [The fool] is in the middle seat watching a movie with earphones and popcorn thinking this ride will work out fine.”