A year ago, when the S&P 500 stood at 3,750 a simple model that factors in earnings growth, the level of government bond yields, dividends and the long-run premium for the risk of investing in shares, suggested fair value at the end of 2021 would be just under 4,500. 

That’s pretty much where the index stands today. The same model points to 4,900 this time next year.

Looking a little further into the future, growth forecasts become less reliable and the best guide is valuation. Broadly speaking the higher today’s valuation, the lower the expected medium and long-term returns should be. Where we stand on that measure depends how you frame the question. 

Consider only company earnings and the market looks expensive, offering unexciting returns in the future. Measure the market against combined cash returns to shareholders (dividends and buy-backs) and we’re somewhere in the middle of the historical range.

So, putting it all together, the outlook for inflation, interest rates, earnings and valuations, says to me that the next few years remain a reasonable time to be invested in shares, a less good time to be in bonds and the right moment to protect your portfolio with some diversifiers like gold and other commodities.

That’s the background to my annual fund picks, which I said a few weeks ago I’d share before Christmas. The Ninety One Global Gold Fund provides the diversification, the Fidelity Global Special Situations Fund plays the expected returns from shares, while the Artemis UK Select Fund and the Baillie Gifford Japanese Fund reduce the valuation risk by weighting the picks towards two of the markets which have, unfairly I think, lagged during the past two years’ rally. 

Rest assured, I eat my own cooking when it comes to my fund picks. Happy Christmas.

Tom Stevenson is an investment director at Fidelity International. The views are his own. He tweets at @tomstevenson63