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Does value Matter in This Bull Market?

Does anything matter other than the Fed and technicals? What's to stop PE multiples from returning to 1999 levels?

May 17, 2013 by Scott from Santa Monica, CA in  |  Flag
7 Answers  |  7 Followers
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6 votes
Alex Bentley Level 18

Value starts to matter when the market is going down. You will never be able to figure out what the Fed is doing. I believe in technicals as much as I believe in psychics. Short-term trading is essentially a waste of time. So that leaves long-term investing. I recently wrote a blog post that addresses this very issue. You might want to read it at http://www.baldwinpartners.com/blog/running-da-bulls.

Comment   |  Flag   |  May 17, 2013 from Pacific Palisades, CA

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5 votes
Rich Winer Level 20

Investor sentiment also plays a big part in the stock market's movement (especially institutional sentiment). You often have an equal number of smart professionals thinking stocks are undervalued as those who believe they are overvalued. Each group is equally smart and armed with extensive research and sound justification for their opinions. However, only one of those groups will be right over any given period of time. Investing intelligently is not as easy as ads for discount brokers and online investment services want people to believe. However, I think many investors (including professionals) are too often guilty of overthinking, doing too much research and having a hard time making a decision. The more I research individual stocks, the more conflicting data and opinions I find. That's one of the reasons why I have a bias for technical analysis because it paints a picture of what's actually happening in the markets as well as who's buying and selling. With the market technical looking good, longer-term, and the Fed and other central banks greasing the wheels, I agree with Scott that the market could head much higher.

Comment   |  Flag   |  May 17, 2013 from Woodland Hills, CA

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4 votes

(To clarify, this question was asked of me by a reader named Viral)

Valuation based on trailing multiples can explain about 50% of an investment's forward returns when judged on a long term horizon. In the meantime the market will rise and fall and you will be able to purchase and sell securities at widely different valuations than a reasonable level of intrinsic value. I believe that it's perfectly legitimate to anticipate these swings in perception of value and analyze markets under the assumption that sometimes people will talk as if the world is ending and other times they will believe that we have attained economic Nirvana. Luckily there are cycles to the pattern of pessimism/optimism, which help us chart the probable path of the evolution of market psychology. However, no one can see the future and so we manage risk by making disciplined purchases only at or below fair intrinsic value. Simply put, value always matters.

I have been consistently bullish on stocks as the Fed has been printing money all year, and if you look at my January investor letter I wrote that:

"this year 1650 seems possible to me, and privately I would be willing to admit that I would not be surprised to see a number much higher than that. In 2013 caution, valuation and stimulus could create a potent cocktail for equities."

The reason I chose 1650 is because I have an outlook for S&P earnings somewhere around $100 this year. I believe a 16x multiple is a high multiple to be paying and that we are unlikely to see a 20x multiple like we did in the 90s. This level, 1650 also coincides with what I consider to be full valuation of a number of individual securities that I follow. In general these companies have about 10% more room before I would characterize their valuation as the maximum realistic value for all economic circumstances. I have always expected them to reach this value before the cycle turns under the assumption that people will price in the most optimistic scenario at the top.

You can't see the future, but you can buy and sell securities at favorable prices. It's difficult to know exactly what the final buyer will pay for a company at a peak price, but you can know what the maximum reasonable value is for someone to purchase who is making extremely bullish assumptions.

For example, I can know how much TSLA would be worth if it sold as many cars as Toyota. That's a number that is greater than today (probably somewhere between $60 and $100 B). Given all the operational risk and decades that it will take the company to actually grow to Toyota's size, would I ever pay that much money ($100 B) for the company today? Absolutely not! Might someone else? Certainly! But every dollar that the stock trades above the intrinsic value of the company represents true long term risk of capital destruction. I personally become unwilling to assume that risk at certain prices which I come to based on personal analysis of what I understand/know about a company. What I am willing to pay for a company and what someone else with different information/understanding may be willing to pay could be very different.

Comment   |  Flag   |  May 17, 2013 from Santa Monica, CA

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2 votes

In today's global economy, the answer is yes. There is a lot more to it than just the Fed and technicals. Although both are key elements, think about the overall market's reaction to bad economic news from other countries... to natural disasters... to new military conflicts in the world. None of us has a crystal ball... if we did, none of our clients would have lost a dime during the meltdown of 2008 - 2009. Thus, the best option, in my opinion, is having a good financial roadmap, know your tolerance for risk and time horizon, and invest appropriately, ie, diversification, different approaches, tactical, dynamic, etc, and keep your eye on the ball. Plus, it doesn't hurt to have a good financial advisor at your side...

Best Regards, and Good Luck... Rod

Comment   |  Flag   |  May 17, 2013 from Springfield, MO

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2 votes
David N. Smith Level 10

You are looking for an answer that can't be known without rear view mirrors. Stick to long term investing (10 years plus time horizon). Or spend your time listening to pundits that make money asking the same questions you do.

Comment   |  Flag   |  May 18, 2013 from Miami, FL

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1 vote

Over the long-term, fundamentals tend to drive the performance of individual stocks. The phrase "a rising tide lifts all boats" is applicable to many bull markets. The stock of a company that sports a high PE ratio that is not justified by the company's growth prospects can rise to incredible levels in the midst of a bull market. Prior to the bursting of the tech bubble, technology stocks rose to nosebleed altitudes. Many of these companies had no earnings to speak of. Had you rode this market to the top and got out before the crash you could've made a pretty penny. In my experience, very few people are capable of timing the market in this manner. At the turn of the century, most folks booked paper profits, only to watch them disappear when the music stopped. However, all bull market rallies have different characteristics. Invest for the long-term in solid companies that are selling for reasonalble valuations.

Comment   |  Flag   |  Jul 26, 2013 from Cranford, NJ

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1 vote

I'm not sure a yes or no answer is going to help you here. If I say yes, would you shift your portfolio to value stocks (if we could agree on what those are)? If I say no, would you shift to mostly index funds, or growth stocks? My suggestion is that you stick with your stock/bond/cash allocation that you created based on your needs and your risk tolerance. You might adjust allocations by 5-10% if you feel particularly strongly that stocks or bonds are expensive or cheap. But if you do much more than that, your strategy starts to look more like gambling than investing. In my opinion, gambling is a dangerous game. Some people might be able to gamble their way to wealth, but I know I can't. I'm pretty sure my dog could beat me in a poker game.

Comment   |  Flag   |  Jul 30, 2013 from Denver, CO

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