My daughter recently graduated from high school. This time in her life means many things: awards, last track meet, graduation parties and some generous gifts from friends and family. Having received such a gift already, my daughter asked me, “Should I invest this in the market today?”
Although I’m excited she might have an interest in finance, I did not give her the short answer for which she was hoping. I asked her some additional questions around goals for those dollars and what she would invest them in.
Her view of investing is that stocks are what people invest in and wondered if “the market” was a good place to invest now.
This led us into a discussion about stock valuation. I shared that it’s true that investing in the stock market does require some discussion around valuation—but, unfortunately, valuation is a terrible timing tool. The market can stay expensive or cheap for much longer than expected. So, any discussion about timing requires thinking about a catalyst that might change the current environment, along with an expectation for when the investment dollars (and hoped-for gains) will be needed.
Where are we now in terms of valuation?
A chart can help us visualize where we are. The one below looks at one valuation measure called the price to earnings ratio for the S&P 500 Index, which encompasses most of the household names that investors, such as my daughter, might know. Looking at the chart, each of the blue lines represents a different price to earnings or (P/E) level. Based on this the current valuation of the market would be slightly above average … not too hot not too cold.
The next question to ask is what could change the current valuation? What is a potential catalyst? One potential catalyst is the possibility that we are close to a change in monetary policy. If in fact that is the case the chart below would give a favorable indication for investing today based on historical reactions by the stock market to changes in Fed policy. For most time periods—but not all—a change in Fed policy tends to lead to upward returns in the market.
When will the dollars be needed?
At this point my daughter was getting a bit impatient. “So, I should invest my money in the stock market today or not?”
The most important question was yet to be answered: what is the purpose for the dollars and when will you need them? In her case she wanted the money to pay for some of her books and hopefully do something fun during her first semester of college.
Stocks, I explained to her are not a great investment for those types of short-term goals, regardless of the valuation or the catalyst we might see. If she wanted to save for retirement for example, today might be a great time to invest. There are of course other investments that might fit better such as money markets, CDs, and bonds.
If you are asking some of those same questions about what to do with your money have a chat with your advisor about your goals, valuations, and catalysts and perhaps you can find the right fit. As for my daughter, she put her money in a money market fund until she needs it.