Was That the Market Hitting Its Peak?

It’s worth wondering whether someone last month, for the first time in Wall Street history, rang a bell signifying that the market had finally hit a bottom.

I certainly don't think they did. ... And if they did, no one was kind enough to let me know that we had reached the market's nadir on March 6, with an ominous intraday low of 666.79.

A similar question can be asked today: Is someone going to let me know when we’ve reached the top of the little dead cat bounce that we’re experiencing? Please do. Because I’ll figure out how to make another 30% on top of the gains the market has given me in the last two months.

Just give me a sign!
Here we are today, up nearly 200 points from that early March low, wondering if we’ve just reached another market peak. Everyone’s sitting around waiting for this particular rally to fold, asking questions like “Where will the market go from here?” “Will it continue to regain some of the past six months' epic losses?” or “Will it revert back to or below the lows we've just hit?”

Regardless of what you think will happen, the market is quickly making up its mind without you.

As we speak, the market is busy adjusting to a mixture of positive and unexpected economic news. It doesn’t care that the fundamental elements that drove us to economic disaster  (excessive leverage at all tiers of American society) haven’t significantly changed. It doesn’t care that we don’t really know what the actual consequences of the stimulus package will be. 

And either way, it doesn’t matter. The market will just constantly react, and that is what's important. From what it’s telling us today, it’s clear that the market is feeling optimistic. The bull is back.

Right?

Who knows?
The truth is that there's no real way to predict what's going to happen from here -- despite the grand certainty embedded in all of that “intelligent” analysis you’ll hear on the news.

Talk to a member of the Austrian school and he's probably loading up on food and ammunition right now. Discuss the subject with a Keynesian economist and you'll likely walk away with a smile on your face. Talk to any reasonably knowledgeable individual on the subject and they probably have a few good reasons why their thinking is the right thinking.

But who really knows?

This combination of events and conditions is entirely unprecedented -- which means no amount of historical analysis will provide a foolproof answer. Experts on the Great Depression may know how to solve the problems of the Great Depression, but this isn't the Great Depression.

And thus, whatever happens in the market (like this recent bump), should be taken with a serious grain of salt. No one really knows what is going to happen.

So, what do we know?
What we do know is that by all reasonable measures, the market is cheap right now. It's so cheap that businesses of all types (including very high-quality ones) are selling at once-in-a-generation prices.

Even though I'm not particularly confident in the recovery procedures our government is touting these days, I think the odds of success in the stock market going forward are strongly in our favor -- for the first time, in a long time.

Companies like Procter & Gamble (NYSE:PG), PepsiCo (NYSE:PEP), and Chevron (NYSE:CVX) -- high-quality businesses all -- are selling for so cheap that you should seriously consider buying. Truth be told, I'm eyeballing all three.

And they aren't the only ones:

Data from Morningstar. P/E = price to earnings ratio.

There is too much quality here, trading for too little, for you to stay out of the market.

Mr. Jeremy "Wizard of Wharton" Siegel apparently agrees, saying in a recent interview: "You are now investing when stocks are down 50% from their peak. ... Once you're down 50% from the peak there are almost no bad outcomes going ahead 10 years."

Now, I wouldn't go as far as saying that there's no chance of a bad outcome. (Remember, we've never been in this situation before!) But the odds of a good outcome are significantly higher than they were, say, 18 months ago.

The odds are with you
Back in the days when stocks actually went up over a considerable period of time, there was a lot of real risk plugged into the market. Growth assumptions were too generous, prices were too high, and -- most important -- very few people knew about the dangers of what was happening in the real estate and financial industries.

But since then, the market has been sliced in half, assumptions have been reduced, book values have been adjusted and a lot of scary information has been brought to light. Whether there's more bad news to come is unclear (credit cards? commercial real estate?), but though it may seem scarier to invest today than it did in 2006 (thanks to a media with a penchant for the sensational), mathematically speaking, it's simply not.

The Foolish bottom line
What we need to do here is simple.

There may be more bad news left to come, so hedge your bets. Concentrate on the companies that are historically very cheap, but still provide sufficient downside protection, in case we're all way off base.

That means pursuing companies with strong balance sheets, good cash reserves, and products and services that are not likely to go away tomorrow. You can have the best of both worlds that way.

If you like the idea of having bets stacked in your favor (plenty of upside, limited downside), then it's in your interest to find the types of companies I mentioned above. Where can you find them? The Motley Fool's Inside Value service is one spot: Philip Durell and Ron Gross have identified 10 Best Buy Now stocks that are ripe for the picking.

Click here to take a free trial to the service today -- and enjoy all 70-plus recommendations and the top 10 picks immediately.

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This article was originally published on March 26, 2009. It has been updated.

Fool Nick Kapur is an Austro-Keynesian economist and owns shares of many top-quality companies. He currently has an active position in an inverse S&P 500 ETF for hedging purposes. Procter & Gamble and PepsiCo are Motley Fool Income Investor recommendations. Novartis is a Global Gains recommendation. 3M and Intel are Inside Value recommendations. The Motley Fool has sold puts on Intel. The Fool owns shares of Procter & Gamble. The Fool has a disclosure policy.