Why bad headlines may be good for your portfolio

Spain's bailout request is the latest in a long line of bad financial headlines.
Flickr user DBduo Photography

(MoneyWatch) For investors prone to allowing the headlines to influence their investment decisions, there's plenty of news that could lead them to sell stocks. Not only is there the possibility, if not likelihood, of Greece leaving the Euro, but there's the potential for a financial contagion spreading through the Eurozone -- the French, German and U.K. banks all have large exposures to the debt of the PIIGS. This fear is fueled by the rising spreads on Italian and Spanish government debt. Indeed, Spain just asked for a bailout to help its ailing banks.

And the bad news doesn't stop there:

  • The U.S. is facing what has become known as the "fiscal cliff" as we head into 2013.
  • The economies of the BRIC countries (Brazil, Russia, India and China), which had been fueling global growth, have all been slowing. This is important because China has become the second-largest economy while Brazil, India and Russia are among the 11 biggest worldwide and their share of the global economy is 19 percent.
  • Europe is in a recession.
  • The U.S. economic data has been weak since the beginning of spring.
  • Last week, we had significant credit downgrades of many major U.S. banks.
  • The unprecedented expansion of the Federal Reserve's balance sheet creates the potential for inflation.
  • Corporate earnings growth is decelerating.
  • We have the uncertainty about the health care bill and the upcoming election.

It's enough to make even a bull head for the exits. But here's the key point: All of the above is known not just by you, but by "the market." Therefore, prices already reflect the bad news. It's also important in the face of all this bad news to keep some perspective. To help you keep your stomach from taking over, we'll take a look at some good news for the market.

We can begin with investor sentiment being pessimistic, which is a contrarian indicator. Around the globe, we have easy monetary policy, which seems set to get even easier. Valuations are below historical averages, especially in international markets. And with the risk-free rate at zero, the equity risk premium is high (reflecting the heightened risks). In the U.S., corporate profits are at a record high as a percent of GDP, and corporations are sitting on record amounts of cash ($2.2 trillion). In addition, housing prices appear to have bottomed out, and credit markets are improving. And what seems to have gone unnoticed by most people I talk to is that there's been a dramatic resurgence in domestic energy production. The fall in natural gas prices has also fueled a resurgence of U.S. manufacturing. Jobs once outsourced offshore are being returned to the U.S.

The slowing global economy has led to a sharp drop in the prices of oil and industrial commodities, which not only acts just like a tax cut for consumers and businesses, but eases concerns about inflation, providing the Fed with more room to maneuver. And, finally, the financial crises led to investors pulling $500 billion out of the market since 2007. That provides the potential fuel for a bull market if the news turns out to not as bad as is currently expected.

Having a more balanced perspective than is generally provided by the media (bad news sells more than good news) may allow you to face the future with greater equanimity. Having said that, the best way to weather financial storms is to be prepared for them by putting together a well-developed plan that anticipates the virtually certainty that bear markets will occur in unpredictable fashion.

Photo courtesy of Flickr user DBduo Photography.

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    Larry Swedroe is director of research for The BAM Alliance. He has authored or co-authored 13 books, including his most recent, Think, Act, and Invest Like Warren Buffett. His opinions and comments expressed on this site are his own and may not accurately reflect those of the firm.