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Hello Alex and RTers,
Thanks, Alex for the article on interest rate adjustments to PE ratios
and the general question of "Is the market cheap or not right how?"
All this begs the several important questions:
1. If stocks are so cheap and "the Market" knows all and sees ahead,
why are prices decidedly down?
2. Who is it that will reach a conclusion that stocks are cheap and
begin to buy thus driving prices upward? Who is the buying power?
The second question is more interesting to me but I have no real
answer, only ideas.
Retail investors:many of whom are also 401k investors. At the present
time they are getting out based on Trim Tabs, Hewitt, AMG Data
Services who monitor 401k and mutual fund flows. They are generally
momentum buyers I think, reacting to price going up and getting in to
fuel the fire. This is the last in-first out crowd.
Mutual Funds: They can't buy unless someone gives them money to
invest and on balance money is flowing out.
Pension Funds: They invest other people's money (OPM) but don't have
to wait for the other people to give the green light. They could
drive the market up.
Hedge and other Private Funds: A bit of both of the previous two
worlds here.
Foreign Money: As long as the dollar retreats, foreign money will
continue to be drag on the US equity markets.
And here a couple of demographic snags--
Historical data shows that people do there maximum savings from the
ages of 45-55.
Baby boomers are just beginning to move out of that range. People who
are currently says 53-56 were joyfully planning their early
retirements based on bubble equity prices. Today that glorious
retirement date has been pushed out into the future. Now they face a
tough choice: do I go back into the marekt one more time to pad the
nest egg or have I been burned once and that's enough. Keep the money
in short term bonds, high div stocks OR housing.
Hard for me to get very bullish in the longer term. I say we test 945
SP500 and then back to 850 and below.
Best regards,
Jim Johnson mailto:jejohn@xxxxxxxxxxx
--
Monday, July 29, 2002, 5:13:57 AM, you wrote:
AB> Hello list,
AB> article on valuation models.
AB> Article Title: "Stocks Still Too Pricey? Two Years Into A Bear, P-Es Say Yes
AB> To Some "
AB> Author: CRAIG SHAW
AB> Section: Business & The Economy
AB> Date: 7/24/2002
AB> More than two years into the worst bear market most investors ever lived
AB> through, you'd think stocks would at least be cheap.
AB> Some say they are, others say not. It all depends on whether you look ahead
AB> or behind.
AB> The standard measure of stock value, the price-earnings ratio, shows the S&P
AB> 500 index is pricier than it was at the peak of the tech bubble.
AB> But a different model that looks at interest rates and expected earnings says
AB> stocks are as cheap as they've been in 20 years.
AB> The difference isn't academic. Rattled investors won't jump back into the
AB> market until they think stocks are a bargain. That means the 28-month downturn
AB> could grind on a lot longer.
AB> "If the bear market is to bottom, it would be the first I know about where
AB> the bottom occurred with less than good values," said Marsh Douthat, president
AB> of Atlanta-based Financial/Market Management, a money manager and newsletter
AB> firm that runs $110 million.
AB> The overvaluation camp argues the tech bubble inflated stock prices so high
AB> that they're still not cheap even after the worst decline in half a century.
AB> The price-earnings ratio supports that. P-E measures how much an investor
AB> pays for each dollar a company earns. Value investors often consider a low P-E
AB> the mark of a buying opportunity.
AB> Prices Still High
AB> The S&P 500's trailing P-E hit 40.07 at the end of June, near its record
AB> year-end close of 46.49 for 2001. It's calculated using earnings from the past
AB> 12 months. Its 25-year average is 17.8, less than half its current value.
AB> "We want valuations to be much more conservative," Richard Bernstein, chief
AB> market strategist for Merrill Lynch, said Monday on public television's
AB> "Nightly Business Report."
AB> Another stock valuation model - used by the Federal Reserve - tells a
AB> different story.
AB> The model compares the price of the S&P 500 to its 12-month expected earnings
AB> divided into the 10-year Treasury bond yield. Thus, it looks at future
AB> earnings instead of past results and brings interest rates - now at a 40-year
AB> low - into the picture.
AB> This model shows the market fairly valued in December 1996, when Fed Chairman
AB> Alan Greenspan made his famous "irrational exuberance" speech.
AB> Valuations skyrocketed in 1999 and 2000, but now have sunk to their lowest
AB> levels since the early 1980s. After the S&P lost 22.15 to 797.70 on Tuesday,
AB> it was 37.5% under its fair value.
AB> "The indicators don't get any better than this," Don Hays, president of Hays
AB> Advisory Group, said in a July 19 market commentary.
AB> Undervalued markets are corrected by rising yields, lower earnings
AB> expectations, higher stock prices or a combination of these.
AB> Ed Yardeni, chief investment strategist at Prudential Securities, said the
AB> Fed model showed stocks were undervalued from 1979 to 1982, in the late 1980s,
AB> in the mid-1990s and in September and October 1998. Strong rallies followed
AB> each period.
AB> Douthat argues the Fed model leads to a "false sense of security" for those
AB> who follow it. The trailing P-E ratio remains sky-high because earnings have
AB> fallen even faster than stock prices.
AB> "It's simply laughable to call the stock market undervalued today with the
AB> S&P 500 selling at 40 times earnings," Douthat said. "I don't care what
AB> interest rates are."
AB> Other money managers maintain stocks are a bargain no matter what the
AB> trailing P-E ratio says.
AB> "It's just not meaningful," said John Tobey, chief investment officer for
AB> Vantagepoint Funds. "The only way to look at growth is to look at the future."
AB> Tobey argues growth stocks are at their best relative prices in a decade
AB> after being driven down by the recession and accounting scandals. Shares are
AB> now changing hands to stronger holders in a final washout and could deliver
AB> returns similar to the 1988-91 run-up, he said.
AB> "The baby has gone out with the bathwater," Tobey said. "As all the bad
AB> stocks have come down, so have the good ones, especially in the last couple of
AB> months."
AB> The Sept. 11 Effect
AB> Richard Cripps, chief market strategist for Legg Mason, says the trailing P-E
AB> ratio is inflated by recession charge-offs and unusual costs related to the
AB> Sept. 11 terrorist attack. "It reflects an extraordinary period," he said.
AB> "On a forward operating-earnings basis, with the inflation and interest rate
AB> assumptions we have now, the market is fairly valued," Cripps said.
AB> The high P-E isn't why stocks are falling, Cripps says. He attributes the
AB> downturn to "a crisis of confidence" keeping buyers out.
AB> The median P-E ratio for the Value Line 1700 stock index, now at 17, shows
AB> more reasonable valuations than the S&P, Douthat said. But it usually falls to
AB> 12 before a major bear market ends, he says.
AB> Douthat agrees investor sentiment traced similar peaks and troughs.
AB> "Investors went from 'Why doesn't everyone own common stocks?' to 'Don't ever
AB> talk to me about common stocks,' " he said.
AB> ===================================
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