A report from financial services research firm Capital Economics has found that the market is pricing stocks at “high risk of a long-run correction”.
It says investors are over-reacting to the economic slowdown and the global financial crisis.
Capital Economics’ analysts say that this risk-free rate of return is “low” and that this will be a good time to take a long, hard look at stocks.
“The risk-reward ratio for equities is extremely low compared to that of bonds and bonds have historically been highly leveraged.
But if investors believe stocks are going to go back to being a safe investment, they may be willing to pay more than they would otherwise,” it says.
“It is not a good idea to wait for the market to go down or buy stocks just because you think it’s going to get better.”
Capital Economics warns that this could trigger a bear market, which is when stocks fall by 10% to 20%.
The report says that, although the stock market is a relatively safe asset, investors should be aware that the risk of an eventual correction is low and that there could be a bubble in the market.
The report suggests that this is one reason why investors are spending money on stocks. “
A 50% fall in the Dow in one month may not trigger a meltdown.”
The report suggests that this is one reason why investors are spending money on stocks.
But it warns that a market crash can be a more dangerous prospect than a market rally, saying: “We believe that an extreme market crash is much more likely than a rally.”
It says that stocks are a “highly leveraged asset class”, which is a riskier asset class to own.
Investors should “consider the impact of a market correction” on the long term, it says, and also “examine the impact that a stock price decline could have on the economic situation”.
Capital Economics says that the recent rally in the stock markets has not been good for the average investor, who is spending more money on the stocks than they were when the market peaked in 2014.
“We see that investors are having trouble making sense of the market and that they are looking for bargains rather than buying stock,” the report says.
This “is a key component of the risk-taking process in the short term” that could be the reason why people are taking a long look at buying stock.
It adds that “in the long run, a return to a market that is much lower than the market would have been a very risky move”.
“The market has fallen from its peak and we are seeing a new normal in which investors are looking to buy stock in an attempt to get the best return they can,” it adds.
Investors buying stocks in a market slump may also have a chance of making a quick profit if the market falls even further.
“However, this is a highly speculative market and the best way to profit from the market downturn is to buy shares rather than take the risk and buy stock when it is lower than it should be,” it warns.
This means that investors should “keep a close eye on the price of the stock during a market decline, particularly when it reaches a lower level than expected”.
This is particularly important in the case of a financial crisis, where “if the market goes up, investors can be making money”, it adds, as “this could lead to a correction”.