The Stock Market: On the One Hand . . . On the Other
The current issues of two Dow Jones publications, the Wall Street Journal and Barron's, both have articles today about whether the well-known stock market barometer, the Dow Jones Industrial Average, can sink all the way to 5,000, almost another 25% loss. "Yes", says the Wall Street Journal. "Not likely", says Barron's.
What's a body to do? These two premier newspapers, leaders in providing U.S. financial market information and published by the same parent company, can't agree on prospects for the most fundamental measure of U.S. business value. It's actually worse; the articles in the two papers take the same analytical approach to getting their answers, and they interviewed experts from the same investment companies. How could they get to different conclusions?
Four months ago here – back when the Dow was moving down through the 9,000 level – we pointed out how its wide day-to-day oscillations were showing that investors had no consensus and no confidence. Obviously, now, 2,400 points lower, that's still true. The writers of today's press coverage both talk about prospective profits – frequently called "earnings" – of the companies in the similar, but broader Standard & Poor's 500 (S&P500) index. They quote estimates for 2009 in the same range of magnitude, $40 to $50 per share of corporate stock. With the S&P500 index presently at about 680, investors are valuing the shares at 13.5 to 17 times the projected earnings per share; the top of that range is near the long-term average valuation of 16 - 19. A drop in the index to 500 would carry the price/earnings ratio down to 10 to 12, historically a very weak valuation; that is, it would show that investors have a low assessment of the vitality of business, compared with the past several decades. (The average P/E since 1950 is about 16.6 and since 1988, it is roughly 19.)
We ourselves don't claim to know how long or how far the market will fall before it reaches a bottom. When someone at work asked recently if it were near there, I heard myself say, "we have to go through the GM bankruptcy first before we can rebuild." That isn't meant as a firm assertion that General Motors will take that path out of its troubles, but it is an indication of my intuition that the financial markets and the economy need to reach some watershed before consensus and confidence can be restored. From that point-of-view, federal government bailouts, while intended to limit damage, can also act simply to prolong the agony, to postpone the needed day of reckoning.
We wonder too if investors aren't nervous about what shape the economy will take when it does start to recover. With all the stimulus programs, healthcare reform and environmental initiatives, how big a role will government have in the economy? How interventionist will public bureaucrats be in managing various programs impacting on business? When will the tax bills start to go up to restore fiscal health to the government following its own current borrowing binge? All these factors will affect the ability of business to do business.
Possibly, though, as we've also said here before, the fiscal stimulus programs will soon begin to do what they're designed to – to bolster "spending" in the economy. Maybe there are other signs of improvement as well: a report today showed lower rates of late payments on credit cards, two major corporate mergers were announced, Ford is apparently making progress restructuring itself on its own, without government funds, and so on. Also, as several other writers have pointed out recently, there's considerable cash sitting on the sidelines, so when those holders of liquid funds think the time is right, the markets could get a sizable upward push as the liquidity flows in.
Our own back-and-forth just talking to ourselves here and coming to varying conclusions does make it easier to understand how the two distinct sources at Barron's and the Wall Street Journal, even if affiliated with each other, could draw differing judgments about the same set of information. As an old industry saying goes, "that's what makes markets".
Ah, that's all fine, but should you buy stock? or sell? I'm skirting that altogether for the moment: I'm buying high quality corporate bonds.
What's a body to do? These two premier newspapers, leaders in providing U.S. financial market information and published by the same parent company, can't agree on prospects for the most fundamental measure of U.S. business value. It's actually worse; the articles in the two papers take the same analytical approach to getting their answers, and they interviewed experts from the same investment companies. How could they get to different conclusions?
Four months ago here – back when the Dow was moving down through the 9,000 level – we pointed out how its wide day-to-day oscillations were showing that investors had no consensus and no confidence. Obviously, now, 2,400 points lower, that's still true. The writers of today's press coverage both talk about prospective profits – frequently called "earnings" – of the companies in the similar, but broader Standard & Poor's 500 (S&P500) index. They quote estimates for 2009 in the same range of magnitude, $40 to $50 per share of corporate stock. With the S&P500 index presently at about 680, investors are valuing the shares at 13.5 to 17 times the projected earnings per share; the top of that range is near the long-term average valuation of 16 - 19. A drop in the index to 500 would carry the price/earnings ratio down to 10 to 12, historically a very weak valuation; that is, it would show that investors have a low assessment of the vitality of business, compared with the past several decades. (The average P/E since 1950 is about 16.6 and since 1988, it is roughly 19.)
We ourselves don't claim to know how long or how far the market will fall before it reaches a bottom. When someone at work asked recently if it were near there, I heard myself say, "we have to go through the GM bankruptcy first before we can rebuild." That isn't meant as a firm assertion that General Motors will take that path out of its troubles, but it is an indication of my intuition that the financial markets and the economy need to reach some watershed before consensus and confidence can be restored. From that point-of-view, federal government bailouts, while intended to limit damage, can also act simply to prolong the agony, to postpone the needed day of reckoning.
We wonder too if investors aren't nervous about what shape the economy will take when it does start to recover. With all the stimulus programs, healthcare reform and environmental initiatives, how big a role will government have in the economy? How interventionist will public bureaucrats be in managing various programs impacting on business? When will the tax bills start to go up to restore fiscal health to the government following its own current borrowing binge? All these factors will affect the ability of business to do business.
Possibly, though, as we've also said here before, the fiscal stimulus programs will soon begin to do what they're designed to – to bolster "spending" in the economy. Maybe there are other signs of improvement as well: a report today showed lower rates of late payments on credit cards, two major corporate mergers were announced, Ford is apparently making progress restructuring itself on its own, without government funds, and so on. Also, as several other writers have pointed out recently, there's considerable cash sitting on the sidelines, so when those holders of liquid funds think the time is right, the markets could get a sizable upward push as the liquidity flows in.
Our own back-and-forth just talking to ourselves here and coming to varying conclusions does make it easier to understand how the two distinct sources at Barron's and the Wall Street Journal, even if affiliated with each other, could draw differing judgments about the same set of information. As an old industry saying goes, "that's what makes markets".
Ah, that's all fine, but should you buy stock? or sell? I'm skirting that altogether for the moment: I'm buying high quality corporate bonds.
posted by Carol S. | 3/09/2009 11:05:00 PM
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