Social Sharing
Extended Viewer
In the Market - July 2009
Jul 15, 2009
State of the Risk Factors
While the Lehman bankruptcy on September 15 was not the beginning of the recession it represents a milestone and the beginning of a greater recognition of risk in the marketplace.
Broad based risk factors like credit spreads, interest rates, and volatility can paint a picture into the investors psyche. Risk was on an upward swing by the time Lehman Brothers filed for bankruptcy, but that event was the straw that broke the camels back and risk in the markets sky rocketed as illustrated by credit spreads, interest rates and the VIX. Almost a year later, these risk factors are back to pre-Lehman bankruptcy levels. The charts below show the range of these risk factors over the last 18 months relative to their levels as of 9/15/2008.
Credit spreads, interest rates and the VIX have all retraced to their September levels, while the S&P is still trading at a 25% discount. This begs the question “Is the S&P 500 cheap right now relative to other perceived risks?” Risk is lower today, but just because it is lower does not mean that a rally is expected. However, it’s the risk vs. return that needs to be considered. The uncertainty around the markets has decreased dramatically since last fall, but the level of earnings has as well. Since earnings are expected to be low and there are few signs of a rise on the horizon, the markets will continue to be susceptible to downward pressure. For the equity markets to rally to the levels before the Lehman collapse, it is more than risk that needs to change. The current levels may look promising from a relative value perspective, but not necessarily from an absolute value perspective. With investors generally more comfortable with the risks in the market, the focus has shifted toward value and that may be fairly priced.