The post-election rout in U.S. stocks has driven the Standard & Poor's 500 Index (SPX) down so far that it would have to advance 26 percent to reach the valuation of bull markets since John F. Kennedy was in the White House.
Investors have seen $806 billion erased from the value of American equities since President Barack Obama was re-elected Nov. 6 in the biggest decline since May. The combination of falling stocks and rising profits as the economy recovers has left the S&P 500's price-earnings ratio below the ending level of eight of the nine bull markets since 1962 and beneath the average of any since Ronald Reagan was in power.
Bears say the 4.8 percent drop in the S&P 500 and valuations show investors are losing confidence that Congress and Obama will reach a budget compromise that would keep the recovery from stalling. Bulls, including the top strategists at six Wall Street firms, say that the declines are another reason to buy and that stock prices from Apple Inc. (AAPL) to Dollar Tree (DLTR) Inc. are bound to improve as earnings increase.
"The stock market looks cheap because people are way too pessimistic about what growth looks like for the next 10 years," said Brian Jacobsen, who helps oversee $208 billion as chief strategist at Wells Fargo Advantage Funds and predicts the S&P 500 will rise 47 percent to 2,000 in 2014. "You can get big and rapid moves in the market when expectations are so low."
David Fuller's view Our 'Austrian School' friends will quibble about the paragraphs above and not without justification. After all, the S&P 500 Index trades on a historic PER of 13.94 and yields only 2.24%. The US economy remains on financial steroids in the form of quantitative easing (QE). Corporate taxes will go up during at least the early years of President Obama's second term. Taxes on dividend payments are also certain to rise. While US corporations have been generally prudent in terms of controlling overheads, they have also flattered earnings through share buyback programmes.
Nevertheless, there are good reasons for not being too bearish. Without having to worry about unemployment, corporations have been generally responsible in terms of curbing overheads. QE remains a massively benign tailwind and is currently scheduled to continue over the next year or more. This will ensure plenty of liquidity and very low interest rates. Multinational companies have often profited additionally from stronger GDP growth in the Asian-led economies. The USA's advantage in tapping shale oil and gas has made its economy more competitive.
A generally beneficial secular theme of Fullermoney's is the accelerated rate at which technology continues to develop. This is unprecedented throughout human history and therefore hugely important. While it does carry the risk of an accelerated rate of obsolescence, the overall cost of technology continues to decline. Therefore, it is available to many more corporations and individuals than ever before, and offers the capacity for them to become much more efficient.
Returning to equities, while Wall Street is moderately valued, there are plenty of cheaper stock markets around, not least in the greater Asian region. While stock markets tend to be volatile, Fullermoney maintains that successful Autonomies and Dividend Aristocrats are much more attractive than government bonds which have been driven to record low yields by QE. We maintain that they are now the great bubble of this decade.
See also Friday's lead item: Too many investors are falling under the spell of false omens.