-David Kuo, Director at the financial website The Motley Fool. The opinions expressed are his own.-

It wasn’t supposed to happen. Shares were not supposed to rise between May and September. That is if you believe the old stock market adage that says you should sell in May and go away, and don’t come back until St Legers Day.

However, if you had heeded the advice this year, you would have missed a 13 percent jump in shares during the summer months. Other great times to have ignored the adage were in 1987, 1997 and 2005 when shares jumped 15 percent, 18 percent and 14 percent.

But before we dismiss the adage entirely, there appears to be some grain of truth to the quaint saying that has its roots in London’s sewers rather than London’s financial district.

The five months from May to September have not been rewarding for private investors in twelve out of the last 25 years. By following the advice, investors would have sidestepped the severe stock market falls of 2008, 2002, and 2001, when shares fell 19.5 percent, 28 percent and 17.8 percent respectively.

Additionally, selling your shares in May 1998 would have protected your portfolio from the collapse of Long Term Capital Management, which saw shares crumble almost 15 percent during the five summer months.

Selling your shares this year would not have been clever, though. The London market has climbed 13 percent between May and the start of September. The summer surge accounted for almost all of the stock market gains to date this year.

Of course, if you stare hard enough at any set of data a pattern will eventually emerge. It may not mean anything useful, but it is a pattern nonetheless.

On the face of it, the summer months do not appear to be the best time to hold shares. The London stock market has risen around 8 percent a year between 1984 and 2008. By comparison, shares have fallen around 0.7 percent during the summer months of May through to September. Therefore, selling in May and buying back in September could be marginally beneficial.

However, it is important to consider other factors before you liquidate your portfolio at the start of every summer. It is essential to take into account selling and buying costs of around 3 percent of your portfolio value. Then there is Capital Gains Tax to pay if your gains exceed the current allowance of 9,600 pounds. And don’t forget you will have to forgo your dividends too.

So where next for shares? Should we liquidate our portfolios and lock in the gains for this year?
Truth is shares were ostensibly cheap following the sell-off in 2007. Consequently, the rebound was not unexpected even if it did happen in the summer of 2008. However, the speed and magnitude of the recovery did take many by surprise. And now that the low-hanging fruits have been plucked, peeled and baked into a pie the next stage will be more tricky.

The economic recovery, which is likely to take years, could be slow and anaemic. High levels of corporate failures will be a key feature as undercapitalised and highly indebted businesses find it increasingly difficult to secure finance. Consumer spending will remain subdued as shoppers keep their spending belts tightened. The upshot is a torrid time for many businesses.

The trick for investors now is to find companies with strong balance sheets and manageable debt that will benefit from any economic recovery. These companies do exists and their growth should spur the next stage of the stock market recovery, which may not occur overnight, but will happen over time.

- Brendan Wood is Chairman of Brendan Wood International, a global intelligence advisory firm. Recently, BWI published the World’s TopGun CEOs as ranked by 2500 institutional investors, which provides insight into the executives in whom shareholders feel the greatest confidence. The opinions expressed are his own. -

The Brendan Wood International’s panel of 2500 institutional investors suffered through last year’s markets believing value would somehow prevail. Those value investing “diehards” indeed died hard.

Conversely, those who correctly read the status of shareholder confidence and acted on it were spared. In short, shareholders that had lost confidence in the system abandoned their value criteria and sold good companies along with lesser ones.

As a result, “value” investors were left holding a bag full of stocks with hidden value. Sadly, the value remained undercover while the price of these stocks plummeted. Many portfolios catapulted through risk tolerance levels and took their investors’ savings along with them. Capital preservation was sacrificed in favor of the mantra “the market always comes back.”

But as advocates of Shareholder Confidence, we ask why take that ride and lose the most important strengths an investor has, namely, capital and a willingness to assume reasonable risk?

If half your life savings or more was lost, what capital or willingness to assume further risk would you have? Shareholder confidence trumps hidden value. If value in a company is credible to those holding the stock, the price will at least remain stable, if not indeed rise.

Should this not be the case, one may be stuck owning the most costly secret in town. This may be so because value investing relies on shareholder confidence coming to the forefront.

ON THE CONTRARY!

A majority of investors classify themselves as contrarians. Surprisingly, they agree with one another about 70 percent of the time. This raises two obvious questions. What is the benefit of contrarianism? Why is it considered a quality? If the majority of investors disagree with you (or you with them), the future of a portfolio relies upon them changing their minds. How much success can an investor expect via changing other people’s minds? Are contrarians delusional about being contrarians? It appears so. Like it or not, the success of contrarians depends on consensus, that is, other contrarians agreeing with them. BWI may have thus uncovered the “quiet contrarian majority”.

SHAREHOLDER CONFIDENCE AND THE CURRENT MARKET

Prior to the 2008 downturn, the number of companies at the top of the Shareholder Confidence Index approached 33 percent. Since the dramatic weakening of markets, that number has been running at 17-18 percent. With no change in the recent quarter, investors remain wary and are not yet ready to assert top levels of confidence (i.e. buying behavior) except in the Top 18 percent.

If investors were to follow the example of Brendan Wood International’s panel, they would only be buying the best of the best.

- Laurence Copeland is a professor of finance at Cardiff University Business School and a co-author of “Verdict on the Crash” published by the Institute of Economic Affairs. The opinions expressed are his own. -

Before the credit crunch, we had what I called a Prozac market. Investors on both sides of the Atlantic seemed to be in denial, as irrational as the people who end up in the bankruptcy court because for years they have kept on smiling while the bills piled up unopened.

Last Fall, reality caught up in the shape of the worst banking crisis in history, and we have now had to mortgage our earnings for decades to come in order to bail out the banks. Not surprisingly, by mid-March this year, the Dow had fallen by well over 50 percent from its peak level at the start of October 2007, and the FTSE by nearly as much. In the last three months, however, the FTSE has risen by 20 percent and the Dow by nearly 30 percent. What has happened to justify the recovery?

The best that can be said is that there have been signs that the economic situation is deteriorating more slowly than in the second half of last year.

For example, the fall in house prices may be slowing. But in both UK and the U.S., they remain a long way above their long run levels by most yardsticks. Moreover, in the early 1990s, after the last British house price bubble popped, it took almost a decade for prices to recover, against a background of far higher inflation and a much more robust economy than today – and of course without an accompanying banking collapse.

Insofar as the construction industry is concerned, any increase in demand from the residential sector is likely to be overshadowed by continuing weakness in commercial real estate and, in the UK particularly, brutal cuts in public sector capital expenditure.

For the foreseeable future, the UK and U.S. governments, households and much of the corporate sector will be forced by record levels of debt to rein in their spending. Long term bond yields are already above 4 percent. Insuring against the risk of default costs 39 basis points for U.S. government debt, 80 points for UK gilts, and 300 or 400 points for a number of major multinationals, which clearly indicates that some financial markets have few illusions about the future.

Pricing equities usually involves a comparison of historic dividend yields with long term interest rates. Unfortunately, in crisis conditions, past levels of earnings (and hence of dividends) are no guide to the future. As government and consumers begin to repay their debts, they will both have to cut spending, or at least prevent it growing at anything like the rate seen in the last few years.

Ideally, the slack would be taken up by export demand. But with world trade in the doldrums, it is hard to imagine the UK and U.S. can export their way out of recession.

I can only visualise two possible exits from this impasse. Either the future involves years of Japan-style deflation, high unemployment and stagnant output. More likely, Anglo-Saxon electorates will opt for monetary expansion, inflation and devaluation, implying a de facto default – which is exactly the outcome being priced by the CDS insurance premia mentioned earlier.

Neither scenario is attractive for equity markets. Add to all this the danger of another round in the banking crisis (possibly involving the European banks), thinly-veiled threats from China to dump their dollars, long term problems which have not gone away, like global warming, pensions and health care……if the market was on Prozac last time, it must be on Ecstasy now.

So what should investors do? My own choice would be a mix of two components:

1. Corporate debt and/or equity of low-leverage companies in “safe” industries: pharmaceuticals and healthcare, food processors, utilities, etc.

2. Conventional and index-linked gilts in pounds, dollars and euros.

Of course, if you think governments are going to default on their debts, rather than inflate them away over the next decade or two, you need to buy gold……and a gun might be useful too.

– David Kuo is a director at the financial Web site The Motley Fool. The views expressed are his own. –

What are consumers supposed to make of the latest inflation numbers? Do we have inflation, deflation or a bit of stagflation?

Truth is, it depends on who you are and what you do with your money. The Retail Prices Index or RPI tells us that prices today are exactly the same as they were a year ago. The Office for National Statistics reported that RPI was unchanged at 0%.

But be very careful when bandying around the term “prices”. The RPI includes elements of housing costs. So it is better to talk about the cost of living rather than prices. Prices have risen compared to a year ago, but the total cost of living as measured by RPI has fallen because of the disproportionately large drop in mortgage costs as a result of lower interest rates.

The proof, if proof was needed, that prices have risen from a year ago, can be seen from the Consumer Prices Index (CPI). Instead of 0%, as measured by the RPI, prices as measured by the CPI are 3.2% higher. The CPI does not include housing costs, so it is a better measure for people on fixed-rate mortgage deals, and also for people in rented accommodation.

The upshot is that if you have taken on mortgage debt and chosen to spend rather than save, then you are worse off as a result.

However, it’s worth bearing in mind that both the RPI and CPI are broad measures of inflation. Consequently, the extremely large basket that is used to gauge inflation may not necessarily reflect the true changes in the cost of living that you may experience. Put another way, if we don’t buy exactly the same things that the ONS puts into its basket then we will experience a different rate of inflation.

To measure our personal inflation rates we need to compare our household budgets today with what we spent a year ago. Interestingly, a twice-yearly study by The Motley Fool has shown that personal inflation is consistently higher than the Government’s measure of inflation.

This should set alarm bells ringing for many of us.  If inflation refuses to die in a so-called deflationary economy, then the outlook for the cost of living could worsen when the Government finishes pouring money through quantitative easing or the printing of raw money.

The jury is still out as to whether quantitative easing will work. It is almost anyone’s guess. But history tells us that boosting the supply of money can be inflationary. This is because when there is too much money sloshing around an economy, chasing a limited supply of goods,  prices will inevitably rise.

Investors therefore have two clear choices. They can sit on their hand and hope that their nest eggs will not shrink to the size of quails’ eggs through inflation or they can heed the lessons of history and invest in assets that have demonstrated an ability to combat inflation.

Only two asset classes have successfully beaten inflation in the long term. These have been property and shares. Most homeowners already have a large exposure to property. So, it may be prudent to increase their exposure to shares to rebalance their way their wealth is distributed.

Interestingly, the yield on UK shares is currently around 5%. That is almost ten times more than interest earned in a traditional savings account. Of course your capital is exposed to both ups and downs.

Even better yields may be available from individual shares. But it is vital to choose carefully. After all, dividend payouts are at the discretion of the company’s directors. That said, companies are often reluctant to cut dividends unless they absolutely have to. And a careful selection of companies whose dividend payouts are strong could be just the panacea for embattled investors.

– Read David Kuo’s blog here or listen to the Motley Fool podcast.