Friday, July 11, 2008

Is it time to buy stocks yet?

The major stock indices around the world have all come down a great deal in the past year and may be offering better investment opportunities now than 1 year ago.

I can't say whether stock prices will go up or down but as a student of market history I am interested in what the past can teach us. Have a look at this chart which tracks the Price to Earnings ratio of the 500 largest companies in the United States from 1950 to 2008. The index levels are significantly lower now and accordingly the P/E ratio is also lower now.

The US markets were down another 10% during June and more so far during July. Worry about the economy and the financial system is on every news channel and there are very few bright spots. Corporate earnings are expected to be under pressure over the next 12 to 24 months as it is likely that the US is in recession and the hangover from falling house prices bites into corporate profits. This will affect the 'E' part of the P/E ratio for the next while. Stock prices are also forward looking and are already pricing in the prospect of lower profits.

Personally, I have a long time horizon and I'm always buying as part of a systematic investment plan but I'm much happier buying today than 1 year ago.


Make It Fit said...
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Make It Fit said...

The PE ratio of DJIA is such a bargain at 89.53 right now. The market is expecting earnings to catch up to high valuations. It is still a bull market. ;)

DJIA Chart

Ryan said...

I bought a couple shares of Berkshire Hathaway recently because although I'm not sure where the bottom will be, better a year too early than a day too late. Otherwise my investing is all automatic withdrawals every two weeks.

Craig said...

Care to provide the data showing the US is in a recession?

You won't find it in GDP, personal incomes, productivity, industrial production and whole-retail trade. Even unemployment is pretty mild and indications are that June retail sales were pretty good.

As for housing, it has only about half the impact on GDP it did two years ago, so further softening there is going to be muted.

To insist the US is in recession is to ignore the data. It may happen yet, but it's not here now.

macho slob said...

I thought we were getting close to the bottom and was ready to start loading up on a big downday. However, with this Fanny Mae/Freddy Mac scare, I would'nt do much more than nibble for a while.

The magnitude of a possible bailout for Fannie and Freddy is mindboggling....more than a 100 times bigger than Bear Sterns....somewhere around $7 trillion, I think....could even be too big for the US government to absorb....may have to appeal to the IMF.

Let's hope & pray that they can somehow hang in there and tough it out, as failure to survive could ignite an unprecedented financial crisis that would deepen and prolong the recession.

Such a disaster could shut down the mortgage market, and hurt the housing market much more that the stock market. Even the remote possibility of such an event is bound to scare lenders into avoiding guess is that US mortgage rates are about to go up.

mohican said...

make it fit - you've got some bad data

The P/E of the Dow is 14.14 as of June 30, 2008.

craig - Official data has not yet shown we are in recession but many would argue that we are - it sure seems like it but I could be wrong.

Official data won't show we are 'in recession' until we've been in it for over 6 months.

Make It Fit said...

Mohican, WSJ estimates DJIA PE at 75.95 as of July 11, 2008.

WSJ P/E and Yields on Major Indexes

The trailing PE is not useful anymore. The cost push inflation is cutting into industrial and corporate profits while US consumer is in recession. The US Import Price inflation is now at 20% YoY.

The Q2 2008 earnings are -22% YoY.

Industry-by-Industry Quarterly Earnings

Make It Fit said...

Correction: I meant forward PE estimation is not useful, unless the market will take care of adjusting to 11 PE from 75. ;)

mohican said...

make it fit - I'd like to read that WSJ story because I'm having a hard time rectifying such a large discrepancy between the numbers.

Gabriel said...

I wouldn't touch the US market until I see a sign that the housing market there has bottomed. Until banks can stop deleveraging from declining mark to market assets.

Besides, the dollar is going for a free-fall.

mightymouse said...

I’m looking for suggestions on what to do with my dough… I’m a blue collar sort with no clue about investing.
All my GIC’s have been and will be expired as of September. I can no longer get 5% on a one year close… The best is 4.05%/1year. My financial advisor is suggesting I stay put in CAD and invest in those GIC’s where the bank invests your money and the most you can earn is 10.5% and potentially 0% if the stocks don’t perform. He also suggested Gold (I already played with that and did very well a few months back… too bad I only invested .5% of my portfolio in it LOL! Real ‘Risk Taker’ here ;P).
I’m thinking of Investing in foreign markets where the currencies might be a little more stable. Any thoughts?

Radley77 said...

I pulled most of my money out of the stock market back in October of last year. The writing was on the wall at that time, that there would be a large number of earnings misses over the next year. We likely aren't going to see earnings rise for awhile: John Authers of the Financial Times makes some good points in this video:

Corporate earnings

jesse said...

mif, here is a listing of DJIA PE ratio. All literature I can find online points towards a PE in the mid teens.

TheCollective said...

I noticed you mention a long term systematic investment plan.
I also have one. Since I value your financial expertise more than mine I'll state mine first and please tell me what you think:

I invest every month the difference between rent and mortgage in stocks. Actually, one stock (MCK)
I have been doing it for three years now.
(this stock represents the strongest medical infrastructure company in the US).
I assume all the stocks will freefall for 3-5 years now. I keep buying monthly (with 15% discount). At the bottom, two things might happen:

1. All the stock market goes to 0. We are all screwed. In that case, I have started already growing veggies in my garden and I am within bicycle distance of work (if there is still work).

2. The market survives. All weak companies, the non-productive ones, dissapear. Those who survive, thrive (less weeds). Of those, the medical field is going to be hot (baby boomers want to leave long and healthy).
Stocks go up, we sell stocks in 2016 and buy house cash.

And if all the money dissapears? Well, The worst case scenario is that I lose all the money and I will be in the same situation as I am today. I can't complain, I have a roof and my family has food.

How's that?

Best regards


patriotz said...

Preferreds have taken a real beating in the last year and now you can get 6% or more from them, tax advantaged.

None of the major Canadian banks have ever suspended dividends. Of course, there's always a first time.