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Are Stocks Too Rich?

Even if the market looks dear, stick to your planned allocation or find a seasoned manager who can adjust it for you.

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Ben Graham, in his classic book The Intelligent Investor, argued that most long-term investors should maintain balanced portfolios--that is, portfolios divided roughly evenly between stocks and bonds--at nearly all times. According to Graham, only at unusual moments, when stock prices seem completely dislocated from underlying value, should "enterprising" investors (those willing to spend a significant amount of time and effort studying their investments and valuation) move to either 25% stocks or 75% stocks, depending on prices relative to underlying valuation.

This essentially amounts to tactical asset allocation based on broad market valuation levels. Very few investors have the skill to time such tactical moves well, so we generally discourage investors from such tactics (and so did Graham, though he allowed for it in some cases). In this piece, I'll argue that most investors should stick with their prearranged allocations, despite a seemingly rich market, or pick funds that aren't afraid to hold cash.

Are Stocks Cheap or Dear?
In 2008 and 2009, investors experienced gut-wrenching declines and breathtaking surges in stock prices. Stocks are still not back to where they were at the start of 2008, but in the meantime, earnings have declined and dividends have been cut. So where are we now, at the beginning of 2010, with regard to price and value? Is there a compelling argument for the enterprising investor to deviate from a standard, balanced allocation?

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John Coumarianos has a position in the following securities mentioned above: RYSEX. Find out about Morningstar’s editorial policies.