Inventory is down considerably. They are still expensive.

US stocks are off to a bad start in a year in more than half a century. By some means, they still look expensive.

On Wall Street, the ratio of a company’s stock price to earnings is often used as a criterion for determining whether a stock price is low or high. According to that indicator, the market as a whole has been unusually high for the past two years. During this period, particularly simple monetary policy pushed up the general view that low interest rates give investors little alternative to stocks.

Despite a 16% drop at the beginning of 2022, the S & P 500 traded later this week at 16.8 times the expected return for the next 12 months.


This is still above the multiple of the average of 15.7 over the last two decades, but down from the recent peak of September 2020, 24.1.

Concerns about inflation and the path of rising Fed interest rates have spurred recent market turmoil and sparked lively debate about the proper valuation of equities in today’s environment. The decline in the S & P 500 by Friday is the worst year-to-date performance since 1970, according to Dow Jones market data.

One of the causes of uncertainty is the growing concern that the Fed’s monetary tightening will put the economy in recession. This is usually a scenario where the multiple of the stock drops. Higher interest rates reduce the value of a company’s future cash flows in commonly used pricing models. Already, some investors are concerned that market expectations for corporate profits are too high given future economic hurdles.

Michael Murany, director of global market research at Boston Partners, which manages $ 91 billion, believes the S & P 500 is well-valued based on today’s rates, but expects it to drop even further. increase.

Equity valuations tend to decline during tightening cycles, and earnings growth during these periods also tends to slow, even during periods when high inflation is not characteristic. In short, investors need to anticipate a more challenging market environment in the coming months.

In addition, the Fed’s cycle is still in its infancy, and Mullaney said he expects central banks to raise benchmark rates higher than they currently expect to curb inflation. By the end of the Fed’s campaign, he expects the S & P 500 to trade at about 15 times the expected return. Adding a recession, he said, market valuations are likely to drop to 13 or 14 times revenue.

“We will be in a volatile market until we have concrete evidence that a significant intrusion has been made to quell the inflation problem,” Murany said.

The burst of the bubble?

The market turmoil is compared to the collapse of the dot-com bubble in 2000.


Citigroup Ltd.

This week, he wrote that the US stock market entered the bubble territory in October 2020 and is now out of the bubble, but said stocks are not as widespread as they were in the dot-com era.

The forward multiple increased to 26.2 times revenue in March 2000. With subsequent sales, they plummeted. By 2002, the S & P 500 was trading at 14.2 times lower than the following year’s earnings. In 2008, when the country was in a deep recession, that figure reached 8.8.

Few stocks have escaped this year’s fall, but technology and other expensive growth stocks are suffering the most. The Russell 1000 Index fell 24% this year, but its counterpart fell 8.1%.

The members of the Growth Benchmark are:

Apple Ltd,

This year’s share is down 17%.

Microsoft Ltd.

22% decrease. Ltd,

32% down.When

Tesla Ltd,

27% down.

S & P 500 shares, valuation and performance

Performance, years so far

Performance, years so far

Performance, years so far

Performance, years so far

Performance, years so far

In contrast, the Value Gauge is headed by stocks that include:

Berkshire Hathaway Ltd,

It increased by 3.8% in 2022.

Johnson & Johnson,

Increased by 3.4%.

UnitedHealth Group Ltd,

3.3% decrease.When

Exxon Mobil Ltd.

45% increase.

For example, Tesla’s stock started trading at 120 times the company’s expected earnings, and prices were around 54 times higher this week, according to FactSet. ExxonMobil, on the other hand, traded at 10.5 times its future earnings at the end of 2021, but that multiple dropped to 9.4.

Stocks in some industries are usually traded at a very different valuation than stocks in other industries. Investors are usually willing to pay more for companies that expect to grow faster than companies with more limited growth prospects. Technology stocks often demand a wealth of valuations, but oil and gas companies have historically been more conservative, as the industry outlook depends on the supply and demand of energy prices and tends to experience a boom and bust cycle. I am trading.

Mike Stritch, Chief Investment Officer of BMO Wealth Management, said: “In an environment of rising rates, what is reasonable to pay for the valuation has been reset.”

US stocks look more expensive than foreign stocks. According to the data available on FactSet, only the Belgian, Portuguese and Saudi Arabia benchmarks and the technology-intensive Nasdaq Composite have a higher rating based on future earnings than the S & P500.By comparison, in Hong Kong


Japan’s Nikkei 225 is trading at 14.3 times, and Germany’s DAX is trading at 11.4 times.

Due to the disparity, some investors are reconsidering overseas.

Eric Lynch, Managing Director of Asset Management Company Scharf Investments, said:

Revenue equation

Price is just one factor in stock valuation. other? Corporate profit. As profits rise and prices stabilize, valuations shrink. Stocks look even more expensive at the same price level if earnings decline.

So far, earnings have been a rare bright spot in the market, swayed by inflation data, changes in the FRB’s policies and headlines on the war in Ukraine, and an increase in Covid-19 cases in China.

Analysts conclude the latest reporting season with profits from S & P 500 companies 9.1% year-over-year in the first quarter, compared to a 5.9% growth forecast on December 31, according to FactSet. Expected to increase. Annual profit is projected to increase by 10%, an improvement over the expected growth of 7.4% at the end of last year.

Good performance is also due in part to the unusually high rate of return. This suggests that many companies have succeeded in passing higher costs on to their customers through price increases. Analysts predict that the S & P 500’s net profit margin will be 12.3% in the first quarter, above the five-year average of 11.2%.

The market has become more and more volatile these days. Equities, bonds and cryptocurrencies are all falling as investors struggle to manage the big volatility that is causing financial markets around the world to sway. WSJ’s Caitlin McCabe is investigating some of the causes behind the recent market frenzy.Photo: Spencer Pratt / Getty Images

However, some investors are skeptical that margins may continue to rise.

“It’s unlikely that the peak margin will continue,” said Lynch of Scharf Investments. “Therefore, even in the absence of a major recession, there is a very reasonable call for margins to be compressed, at least for earnings estimates that are too high.”

There are additional reasons to worry. According to the company, this season’s companies are referring to the highest percentage of “weak demand” fluctuations since 2020.


Global research.

BofA also found that the rise in S & P 500’s 2022 profit forecast was primarily due to higher expectations for the energy sector. Bank analysts said that without a sector accounting for less than 5% of the S & P 500, expectations for earnings for this year’s index would have been lower than at the end of last year.

If earnings are disappointing, the stock market valuation will be even higher than already shown, unless the stock price drops further.

Write to Karen Langley

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Inventory is down considerably. They are still expensive.

Source link Inventory is down considerably. They are still expensive.

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