Hussman Weekly Market Commentary: Avoiding the Big Loss

Hussman Funds - Weekly Market Comment: May 8, 2006 - Avoiding the Big Loss: "Here's a historical fact that I don't recommend as a timing tool or investment strategy, but is true nonetheless. Had an investor sold the S&P 500 index anytime it reached a price/peak earnings ratio of 19 (i.e. 19 times the highest level of earnings achieved to-date), and then simply sat in Treasury bills, possibly for years, reinvesting in stocks only when the S&P eventually declined to 14 times earnings, that investor would have captured the entire historical return enjoyed by S&P 500, with substantially lower volatility and risk exposure.
Even easier, suppose that an investor sold the S&P 500 at 19 times record earnings, and just sat out of the market until the S&P 500 eventually dropped 30% from its prior highs (say, on a weekly-closing basis). Nothing more. Just sell at the first point of overvaluation and then sit around waiting for a plunge. That strategy would have placed an investor out of the stock market nearly 30% of the time, yet would have produced total returns of 13.03% annually since 1940 (versus 11.90% for a buy-and-hold approach), and 13.67% since 1970 (versus 12.96% for a buy-and-hold).
Now, one might say sure, but that's because you've eliminated several deep, unusual �outliers� like the �69-70 decline, the �73-74 plunge, the �87 crash, and the 2000-03 bear market. But that's exactly the point. All of those plunges had their origins in rich valuations."