Posted on 07/16/2002 4:50:49 AM PDT by Lazamataz
Capitulation, my foot.
Monday's trading may have created one of the most gut-wrenching days in stock market history, but it hasn't brought equity values to a bottom. A broad market index like the S&P 500 must slide another 20% or more from here before it is properly valued. Chillingly, even after this year's 30% drubbing, tech stocks must lose half their current value to reach sensible levels.
other words, the S&P and the Nasdaq will both need to drop to around 700 before stocks hit a floor. The one piece of good news is that we're in the last leg of the postbubble correction. But as all action-movie fans know, the last sequence is always the bloodiest. The end is nigh, but it is also in sight. The bad guys in this story are yet to be slain: nosebleed valuations, earnings tampering and a hamstrung macro environment.
(One big caveat: Despite the bleakness of the last few days, stocks almost certainly won't go straight down from here. Recall how long it took for the Nasdaq to hit Detox's target of 1500.)
Despite the selling, a substantial reserve of bullishness still exists on the Street. A clear sign of that is onetime bears like Bank of America's Tom McManus telling people to buy more stocks. Meanwhile, the Fed's monetary policy is extremely loose, and that is keeping the financial system intact -- at least for now. And the selling surely won't be done until we stop hearing the idiotic mantra that equities are cheap because they've fallen so far. On that yardstick, Adelphia, Enron and WorldCom are all screaming buys.
Fundamentals drive markets over the long term, and they still bode ill. Don't be tricked by the argument that because we're trading at close to 15 times expected 2002 earnings for the S&P 500 companies, we must be close to a bottom. Fifteen times is close to the long-term average multiple for the index.
Yes, the index is trading at around 18 times the $51.14 of forecast operating profits. And yes, these may be trough earnings for some sectors. But why are forecast as-reported earnings -- that is, earnings after certain charges and supposedly nonrecurring items -- so much lower at $35.47?
Some of the gap has to do with thedifferent ways that S&P collects as-reported and operating earnings,but it is also because operating earnings generally leaveout goodwill writedowns that have been necessitated by the introduction of a new accounting rule.
Now, there is some argument for keeping a chunk of those writedowns out. But these won't be the last goodwill writedowns we see; as accountants are forced to do their jobs properly, such charges to intangible assets are likely to become a lot more regular. Quite right, these may not be cash charges, but in most cases it took cash to buy or build those assets in the first place.
For those reasons, it makes sense to factor in some of the goodwill charges. Very roughly, that could be done by taking a midpoint between as-reported earnings and operating earnings. That gets us to around $43 in S&P 500 forecast 2002 earnings. Multiplying that by the 15 multiple makes 645 -- close enough to Detox's 700 target for the index.
At the same time, tech stocks have to continue tanking. If we use the S&P 500's information technology sector index as a rough yardstick for tech names, the sector is trading at an absurd 38 times forecast 2002 operating earnings. If we halve that multiple to 20 times, that sector index must also fall by 50%, all else being equal. And 20 times is an aggressive valuation for a sector that is crawling out of one of the biggest busts in history. Apply the halving principle to the Nasdaq and you're at 700 once again.
Of course, any discussion based on earnings assumes we can trust the profits numbers that are reported. As we have seen, that's about as advisable as letting Hannibal Lecter babysit your firstborn. The bulls will retort that once the SEC's deadline passes this fall for CEOs to pledge that their company's numbers are clean, the market will be able to rally.
But who's to say the liars won't keep lying? The wording of the pledge is loose enough to let a top dog weasel his way out if chicanery is exposed later. And even if generally accepted accounting principles are adhered to, the stuff called earnings may bear little relation to what is generally thought to be profits. Actually, it's not even clear that professional money managers know what profits are, given the extent to which postmodern blurriness has infected institutional investors. It's quite mystifying why the head of, say, the Janus Twenty fund hasn't been dragged before Congress for losing billions in mom and pop money. Why the brokers and the accountants and not the people who actually destroyed the wealth?
Completing the nightmare, the Fed can do little more and is looking more and more like the Bank of Japan each day. It has cut rates like crazy and unleashed an unprecedented credit boom -- even in the midst of an economic slowdown, a phenomenon few economists can explain. But this lending bingewon't offer much lasting help, because all it has done is inflate prices in the housing and services sector, shore up demand for autos and make it much easier for the government to suddenly run up a huge deficit. All those uses are consumptive and divert resources from productivity-enhancing investment. What's more, firms are too debt-laden to go back to '90s-level investment spending.
As Alan Greenspan massively raises the supply of dollars, the greenback's price -- surprise, surprise -- is falling against other currencies and gold. It's easy to see why foreigners are heading for the exits: First, in this postbubble, overleveraged environment, the opportunity for good returns has diminished. Moreover, the Fed is deliberately cheapening the dollar that the outsider eventually aims to get paid back in.
But the domestic investor has stayed relatively faithful. Sure, individual flows into the market are way down, but mutual fund flows are still strong, in large part because of the captive 401(k) flows. A reversal of those flows will be the next shoe to drop. And it will trample stocks still further. Capitulation means surrender. And the bears can still safely cry: "No surrender!" Even after a day like Monday.
Dow +48
NASDAQ +14
S&P +3 (that's been lagging.
We didn't do too bad!
DJIA: +69 was the result.
NASDAQ: +21.99 was the result.
S&P: 0.00 was the result.
While I wasn't willing to offer hard numbers, I offered slight gains for DJIA and NASDAQ and a breakeven or slight negative for S&P.
Okay, now I am starting to scare myself.
DJIA: Minus 132 (I was 25% high on this prediction)
NASDAQ: Minus 40 (or almost 3%, which I think is harsh)
S&P: Minus 24 (kinda missed this prediction)
You are not behaving sycophantically enough. ;^)
What say you for IBM, oh great one? 50? or 120?
Did you ever read Foundation? You know how Hari Seldon could predict the actions of vast masses of men using mathematics? Psychohistory, I think he called it. As you remember, though, he could not predict the actions of an individual.
So it is with me. ;^)
(Actually, I cannot predict a ****ing thing. I just got lucky twice.)
Just so I am clear: DJIA ends 2 to low-3 digits lower, S&P is about 1-2% lower, and NASDAQ -- while lower -- is not meaningfully in losing territory.
If you had bought $1000.00 worth of Nortel stock one year ago, it would now be worth $49.00.
With Enron, you would have $16.50 of the original $1,000.00.
With WorldCom, you would have less than $5.00 left.
If you had bought $1,000.00 worth of Budweiser (the beer, not the stock) one year ago, drank all the beer, then turned in the cans for the 10 cent deposit, you would have $214.00.
Based on the above, my current investment advice is to drink heavily and recycle.
I like it. Need an agent?
DJIA down 163, S&P down 16, NASDAQ down 24.
Who's your daddy?
So you're predicting that the major indexes to the Market will drop in a Bear Market. Man, you're really going out on a limb here!
Tremble before my awesome power!
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