Should You Get Out of Stock Issues for a While? : Investing: It depends on how much risk you can take and whether you’re investing long term. Many say stocks are heading for a short-term fall.

The stock market always seems to be climbing a wall of worry, as the saying goes, but this time the escarpment is starting to resemble the north face of Half Dome.

By several traditional measures, stock prices are clearly overvalued. Equity-fund investors who haven’t participated in the current rally must be wondering: Is it too late to buy?

The answer, as always, depends on whom you talk to.

The bulls are cheered by the market’s impressive momentum in recent weeks and a favorable trend toward lower interest rates. The bears, however, wonder if stocks and equity mutual funds haven’t risen too fast, especially given the snail’s pace of the economic recovery.

Perhaps the most unnerving sign is the stock market’s low dividend yield. Even at previous market tops, when stocks were most expensive, the average yield paid by the 30 Dow Jones industrial companies rarely dropped below 3%, says Geraldine Weiss, editor of Investment Quality Trends newsletter in La Jolla.

Last week, however, the Dow was yielding a meager 2.8%--an ominous sign in her view.

“That (3%) yield area has marked the top of every major advance in the past century, including the infamous year of 1929,” says Weiss, who in the spring of 1987 forecast the market crash later that year.

Also of concern to Weiss are high price-to-earnings ratios (calculated by dividing a stock’s price by its earnings per share).

At the start of 1990, in the uneasy days before the Persian Gulf War, the Dow companies sported an average P-E ratio of just 13. In 1987, the average was 21, Weiss says.

Today, by contrast, the industrial average trades at a multiple of 31--a result of both escalating stock prices and recession-ravaged earnings.

Not everybody looks at the same numbers and sees gloom, however. John Markese, research director of the American Assn. of Individual Investors in Chicago, figures that the Dow’s P-E ratio is exaggerated because the economy is at a low point. As growth picks up and corporate profits improve, P-E numbers will look better, he predicts.

The trend toward declining interest rates is favorable for equity funds because it not only bodes well for future economic growth but also makes stocks look more attractive compared to yield-oriented investments such as money market funds.

Don Wilkinson, owner of FSC Advisory Corp., a money management firm in Irvine, believes that there’s a good chance of further interest rate cuts in the months ahead.

Coming out of past recessions, he says, the Federal Reserve Board has lowered its federal funds rate below the inflation rate. He notes that the fed funds rate lately has been around 4%, while inflation for 1991 came in at 3.1%.

Bill Fouse, chairman of Mellon Capital Management in San Francisco, continues to focus on stocks and bonds in the accounts he manages, in part because Treasury bills and other cash-equivalent securities return so little.

“A long-term investor seldom should be a friend to cash,” he says.

Fouse, an asset allocator, likes the outlook for both stocks and bonds, and he doesn’t consider the equity market significantly overpriced.

“We’re not sitting at the edge of any abyss in my opinion,” he says.

Fouse has his portfolios split evenly between stocks and bonds. Normally, he would have 65% in equities and 35% in bonds.

In light of such differing forecasts, it’s hard to know whether the current situation presents unusual dangers for stock funds. As always, let tolerance of risk be your guide. If you feel that you can’t afford to suffer any losses, stay away.

In addition, if you believe that you will have a near-term need for the money, stick with low-risk investments. Wilkinson considers stock funds appropriate primarily for those who can afford to keep their cash invested at least six or seven years.

Markese agrees with the notion of maintaining a long-term outlook, and he urges people to keep investing in moderate amounts through various stages of the market cycle.

“Don’t move a large chunk of money in at any one time,” he says. “‘I’d recommend the same even if the market had just suffered a big loss.”

Market Crashes, Then and Now

Stocks and equity mutual funds are overpriced according to some traditional measures, but is the market ready to plunge as it did in 1987? The chart below might provide some answers. It lists several key factors that were blamed for the ’87 crash and what their current status is.

Interest rates

Then: Rose sharply from early 1987 through October.

Now: Have been declining for more than a year.

Inflation

Then: Rose from 1.1% in ’86 to 4.3% in ’87.

Now: Declined to 3.1% in ’91 from 6.1% in ’90.

Business cycle Then: Economy looked vulnerable to recession after five years of growth.

Now: Economy is apparently in early stages of recovery.

Trade-partner relations

Then: Some analysts blamed U.S.- German bickering over monetary policy for directly sparking the crash.

Now: Relations with some partners are still tense, as shown by the flap over selling U.S. cars in Japan.

Narrow breadth

Then: In the months before ’87 crash, most stocks couldn’t keep up with the Dow 30.

Now: All major sectors participating in the current rally, led by small stocks.

Program trading

Then: Blamed for exacerbating the ’87 plunge.

Now: Still a factor, although some post-crash limits on program trading have been put in place.

U.S. dollar

Then: Dollar lost about 40% of its value from ’85 through ’87.

Now: Greenback has weakened in recent months but remains about where it was a year ago.