Is the Stock Market’s Current Valuation Low?

Today I wanted tackle a couple of things from the media yesterday; one on TV and on from the LA Times.

Two different commentators on CNBC said that stock valuations are cheap. I would urge caution there. We don’t really know if valuations are cheap. For many companies we do not know the E in P/E we also don’t necessarily know the book value for many companies either. We still have writedowns to come, credit card debt looms as a threat (so says Meredith Whitney) and if we are truly moving to a deleveraged world then ROE for many stocks could come down as well.

Most of the above obviously pertains to financial stocks but I do not think the cheap valuation argument is the best way to look at it.

However stock prices are low, not that they can’t go lower but they are low. Selective stock picking at these prices (even 100 SPX points higher than here) will look like very good purchases at some point in the future. The dilemma is not that many companies go to zero, some will but it won’t be hundreds, probably not even dozens, but that stock prices could go down another fill in any percentage that makes you uncomfortable is what creates fear. Even after the depression stocks came back. Some folks think this is a as bad as the depression, I do not, but either way stocks came back and made new highs eventually. I am not making a call to buy them with both hands here but major portfolio selling here is very likely the wrong thing to do given the market has already dropped 50%.

The other item was an article in the LA Times that questions whether long term investing works or not. For most people, the article says, 12 years is a long time referring to the fact that we are about where we were in March 1997.

The author makes a couple of group-think comments that belie a lack of some understanding. He asks:

What if the next 10 years are like the last 10 for stocks, or not much better, before some glorious new era of growth arrives in 2019?

He then sort of answers the question:

If you’re 30, you can wait. If you’re 60, it may be a bridge too far.

While the odds of this 12 year round trip to nowhere turning into a 20 year round trip to nowhere are slim its not like the S&P 500 will stay between 730 and 760 for ten years. After bottoming in July 1932 the Dow rallied from 40 to 78 in three months. Then it dropped back to 50 in four months before going to 105 five months later. After that the moves were smaller in a sideways pattern before going up more slowly for a couple of years. It then cratered from July 1937 to April 1938.

The article validates the decision to get out of stocks now. I have no idea if the author wrote about any sort of defensive strategy before things turned but as uncomfortable as it may be “Running away from stocks now is the safe thing to do if you can’t bear the thought of another meltdown” is simply the wrong thing to do. Implementing a defensive strategy after a 50% decline is the epitome of selling low.

The point of all of those posts about the 200 DMA was to avoid the very predicament the author assumes people are in.

About Roger Nusbaum 169 Articles

Roger Nusbaum is an Arizona-based financial advisor who builds and manages client portfolios using a mix of individual stocks and ETFs. Roger writes a popular blog, which focuses on risk management, foreign stocks, exchange traded funds, options etc.

Roger has been recognized by many in the investment management industry for his expertise in portfolio management. Roger has been regularly interviewed by the financial press, trade journals, and television news shows. He has also had numerous technical articles published and has been quoted in a number of professional trade journals, newspapers, and consumer finance magazines. He appears frequently on CNBC Asia as a market commentator.

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