We are in the midst of the sixth straight down day for the market, and as of this writing the S&P 500 is 5.91% off its April 29 high.

With the end of QE2 approaching, the investment world is having somewhat of a Groundhog's Day moment.  Last year, the stock market peaked in late April as the end of QE1 coincided with softening U.S. economic data and European sovereign debt problems, which ultimately led to a 16% correction from April 23 to July 2.

This year markets are following a similar path.  Again the stock market peaked in late April, and again the Fed's asset buying program (QE2) is coming to an end at a time when economic data is weakening and European sovereign debt concerns have resurfaced.  And just like last year, defensive sectors (consumer staples, healthcare, utilities, telecom) are in favor while cyclical investments (energy, industrials, materials) are underperforming.

However, there are some important differences that break this bit of déjà vu.  For starters, the credit markets at this time last year were overtaken by fear of global contagion like the one accompanying the Lehman Brothers bankruptcy; however, today global credit markets aren't flashing the same signs of distress.  In addition, the labor market has made great strides from a year ago - I'm not trying to claim the labor market is strong, because it is not, but we've had net job gains in each of the past 12 months compared to a year ago when there were net job losses in 10 of the last 12 months.  Equally important is that valuations are not nearly as stretched as a year ago: the S&P 500 a year ago traded at 17.5 times earnings in April 2010 compared to 14.6 times earnings it trades at today.

The biggest difference, though, is that investors are already clamoring for another round of quantitative easing, something that wasn't really considered an option this time last year until Ben Bernanke brought it up himself in August 2010.  To me this is a clear sign that the addiction to monetary stimulus is much worse. Yesterday, the market gave up all of its daily gain when Bernanke signaled a third round of quantitative easing (QE3) was not imminent.

But does the market really need more quantitative easing?  Unless there is an obscene jump in the unemployment rate, then my answer is no.  I've never really believed that QE3 was likely because it doesn't really make any sense - QE2 had a greater impact on the financial markets (propping up asset prices) than on the real economy. The Fed can't prop up prices forever; eventually the economy must naturally work through some of the pain.

The Fed likely averted a Depression by acting so aggressively at the onset of the financial crisis and throughout the recovery, but the pain can't disappear into thin air.  Rather pain is spread over many years, which means economic growth will be bumpy and market pullbacks should not come as a surprise.  This is the same mantra I've repeated for more than a year now and the story won't be changing any time soon.

This is a perfect example of why investing should not be viewed with a short-term mindset. The prudent investor should view things from a long-term perspective and resist the urge to deviate from their investment strategy. Yes, we have hit a rough patch, but the world is not ending.  In my opinion, this market pullback of nearly 6% has been very healthy for market valuations, and another 5-10% decline would really create some great opportunities.

Thanks for reading,

Peter Lazaroff, Investment Analyst

St. Louis, MO