If the share market rallies of the past three weeks show anything, it is the danger of attempting to time markets.

Indeed, one of the market’s more testing characteristics is the tendency for returns to be concentrated for relatively short periods.

The markets make their big gains and losses - as Malcolm Gladwell observed – when they reach a tipping point or when investors decide upon a new consensus.

Only a few manage to leap on the train, so to speak, as it leaves the station. And most of those who do have generally made a decision to buy sell or hold well ahead of the move.

They have sat and waited and hoped their view would become the norm.

Such moves also inevitably leave investors on the sidelines, either marvelling at their luck or fretting over a lost opportunity. And although this latest run has come down in the favour of the former – all market players are left with a single question – has the market run too far?

It will take time for a new consensus to emerge after this latest but on bald measures the Australian market is not obviously nor uniformly cheap.

The market excluding resources and listed property trusts are currently trading on a price to forecast earnings ratio of 11.5 times.

This compares with the average ratio since 1961 of 10.68 and the average ratio 13.9 times since 1990, when inflation was brought under control. (Australia’s independent monetary policy gave a boost to company valuations because it cut the cost of capital, or, to put it more technically, it lowered the rate at which future earnings were discounted).

These figures, meanwhile, disguise considerable variation. Resource companies, for example, look comparatively expensive. They are now trading on a forward PE of 16.7 times, against a multiple of 14.2 as the market reached its peak in 2007.

Banks have been discounted and are now trading at around 10.5 times next year’s earnings. The industrials, meanwhile, look the cheapest now trading at 11.5 times next year’s earnings compared with 17.3 times at the peak of the market.

Add to this: the fact that the ‘E’ in PE is, especially in the current climate, is no more than an informed guess and that analysts (and to be fair most other participants – me included) were more than surprised by the extent of the market turmoil.

Finally, with the majority of analysts picking that listed companies will next year deliver average earnings growth of 20 per cent across, now does not seem the right time to abandon one’s caution.

Signs of life:

Now, let’s not get too excited, but in Sydney, Darwin, Melbourne there is clear signs of a recovery in housing.

Housing approvals have been a consistent lead indicator of the direction of housing approvals by at least six months in previous downturns.

As the chart shows in 1990, 1995, and 2002 recoveries in lending for new homes was followed between six and 12 months later by a recovery in housing construction.

The Australian market, particularly the East Coast, has a number strengths that distinguish it from the US and Western Europe, which are still suffering from the fall-out of their housing difficulties.

Firstly it has a robust banking system. Mortgage rates are now at historic lows and the cuts have been far larger across the ditch than they have around the world.

Falls in variable rate mortgages in Australia have fallen by nearly 400 basis points since the start of the easing cycle.

This compares with around 20-30 basis points in the US, 250 basis points in the UK, and just over 200 points in Canada. The only country that has come within a stone’s throw of Australia is New Zealand, where variable rates have fallen just under 400 basis points.

Australia also has a chronic shortage of rental housing.

The general housing under build in most Australian cities has seen vacancy rates fall below two per cent – in Sydney it is one per cent – and this is now sparking surge in rental rates.

For the first time since 2002, the yield on rental properties has risen above the cost of getting a mortgage and buying a house.

Put plainly, it now makes more sense to buy a house than it does to rent a property. This is the first time such a strong buy signal in the Australian market since 2002.

Finally federal subsidies for buyers of new houses, worth A$21,000 and a doubling of grants for first time buyers of existing homes to A$14,000 are also giving the market a shove.

The rally is concentrated in the cheaper suburbs as first home buyers decided the time is right, at the top end, the housing market is as sluggish as ever.

The effects of this should not be underestimated. For a start it is good for the stocks wired into the market. Harvey Norman for instance will be a beneficiary as proud new home owners are faced with the reality of buying the necessary furniture and appliances; and building materials suppliers (including our own Fletcher Building) will in the longer term be beneficiaries.

As this column noted last week the best that can be expected for a recovery in the US is a slow and grinding recovery as public and private balance sheets are restored to health.

And, unless China somehow finds a way to stimulate internal demand, then it is not clear if demand for resources is going to take off anytime soon.

A housing recovery – which in developed economies – is a key driver of economic growth will provide a welcome buffer until the rest of the world gets back on the rails.

Richard Inder is an investment advisor at Macquarie Private Wealth. His disclosure statement is free and is available on request. His clients may hold shares in the firms mentioned.

Comments, think differently? Write to Richard.inder@macquarie.com

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