EXUBERANCE GOETH BEFORE A CRASH

Advisers, beware. Evidence that the U.S. stock market has entered the speculative bubble phase continues to accumulate. The latest confirmation: the willingness of investors to buy stock without voting rights.

In normal times, investors demand voting rights when they buy a piece of a company. And rightly so, since the owners of common stock are last in line in any distribution of assets if the investment fails. Their only protection is their right to vote on board membership and on significant management decisions. Courts have agreed that the right to vote has real value.

Yet, in the current overheated market, investors are willing to buy stock that gives them no say in running their company — and in some cases pay a premium for it. Even Federated Investors, the nation’s 10th-largest mutual fund company that is going public next month,will offer only non-voting shares. They’ll probably be snapped up.

Add to this strange appetite for even non-voting shares such disturbing ingredients as the sky-high average p/e ratios of stocks and the continued bullish statements that “this time it’s different.” Then add one more sign of extreme exuberance: the latest Stocks Bonds Bills and Inflation report from Ibbotson Associates.

When Roger Ibbotson and Rex Sinquefield published their first study of the historic returns of stocks, bonds and cash in 1975 they found large company stocks returned 8.5% compounded annually. They then projected that stocks overall would return 13.6% for the 25 years beginning Jan.1, 1975.

What an underestimation! In 23 years, the market has soared like a soap bubble in an updraft. Large company stocks have actually produced a compound annual return of 16.6% while small company stocks have done even better, returning 20.9% compounded annually.

To match the Ibbotson-Sinquefield projections, the market would have to return nothing — that’s zero — for the next two years. To get back to the historic annual return of 11% for large company stocks, returns over the next two years would have to be negative.

The market cannot continue to produce above average returns forever, and the higher the climb, the greater the probable fall.

No one knows when the fall might occur, or what might trigger it, but part of an adviser’s job is to forewarn clients of the dangers of blue-skies investing.

It’s probably not too soon to reach for the parachute and begin strapping it on.