Warren Buffett: The 3 Signs That Always Appear Before Stocks Double

 

Here is a summary of the video "Warren Buffett: The 3 Signs That Always Appear Before Stocks Double":

Core Thesis

A speaker (purporting to be Warren Buffett, though the text contains anachronisms that cast doubt on this) claims to have identified a reliable historical pattern. When three specific conditions align, the stock market has consistently doubled in value within 18 to 36 months.

The Three Signs

1. Extreme Valuation Compression: The market trades at a significantly depressed price-to-earnings (P/E) ratio, typically 12 times forward earnings or lower. The key metric is the "equity risk premium"—when the earnings yield (inverse of P/E) is 4+ percentage points higher than the 10-year Treasury yield, stocks are in the "compressed" zone, setting up for major gains as multiples expand back to normal.

2. Maximum Bearish Sentiment & Capitulation: Investor pessimism reaches an extreme, with sentiment surveys showing ~70%+ bearishness. This is accompanied by "capitulation"—panic selling marked by huge volume spikes, a soaring VIX index (above 50-60), and record outflows from equity funds. This indicates that nearly all potential sellers have sold, leaving no one left to drive prices down further.

3. Aggressive Monetary & Fiscal Stimulus: Policymakers respond with overwhelming force. The Federal Reserve aggressively cuts interest rates (often to near zero) and implements quantitative easing (QE). Congress passes large fiscal stimulus packages. This flood of liquidity and support acts as the catalyst and fuel for the recovery.

The Pattern in Action

The speaker cites historical examples where all three signs aligned, followed by a market doubling:

• August 1982: Post-recession, with high unemployment and inflation. Market at 8-10x earnings, extreme pessimism, and Fed rate cuts.

• March 2009: Financial crisis. Market at 11-13x earnings, 70%+ bearishness, Fed at 0% + QE, TARP stimulus.

• March 2020: COVID-19 crash. Market at 15-16x earnings (cheap with 0% rates), 75%+ bearishness, panic selling, Fed at 0% + unlimited QE, trillions in fiscal stimulus.

Actionable Plan for Investors

The speaker provides a step-by-step guide to capitalize on this pattern:

1. Prepare in Advance: During bull markets, build a cash reserve (25-35% of portfolio). Create a watchlist of high-quality companies and target buy prices.

2. Monitor the Signs: Systematically track valuation, sentiment, and policy indicators.

3. Deploy Capital When Signs Align: When all three signs are present, invest methodically despite fear. A sample plan:

   • Week 1: Deploy 30% of cash.

   • Next Month: Deploy another 30%.

   • Following 2-3 Months: Deploy the final 40%.

4. Focus on Quality: Buy excellent businesses with strong balance sheets at beaten-down prices.

5. Hold for the Double: Resist the urge to trade; hold through volatility for the full 18-36 month doubling period.

Current Outlook & Conclusion

The speaker concludes that as of late 2024, these three signs are not present (valuations are high, sentiment is not bearish, the Fed is not easing). However, they anticipate a recession and market decline within 1-2 years, which will eventually set up the conditions for the pattern to repeat. The key is to be prepared with cash, knowledge, and a plan so you can act with courage when the next opportunity arrives.

Comparing equity yields with term deposits is lazy

Marcus Padley

December 3, 2011

I have been getting a little bit irritated by the constant comparisons between the yield on equities and the yield on a bond or term deposit.

The argument goes that equity yields are now higher than bond yields and also higher than term deposits, so you should switch.

But the truth is that a comparison of the returns on term deposits or bonds with equity yields is simply lazy and ridiculous and reckless, because it misses the point about why people are in term deposits in the first place.

Advertisement: Story continues below

Let me explain by taking a well-known income stock - the National Australia Bank, one of the highest-yielding and safest blue-chip stocks in the market. The yield on the NAB is 7.5 per cent - 10.7 per cent including franking. That, everyone will tell you, is cheap and the argument is that all you mugs holding term deposits earning just 5.5 per cent are idiots because you get a whole extra 2.2 per cent in the NAB or 5.2 per cent including franking.

Fair enough, until you consider this exercise.

Get a chart up of the NAB over the last year (one year will do). Now mark off the peaks and troughs since January and calculate how many and how big the variations have been. You will find that the NAB has had 10 fluctuations. Five rallies and five falls.

The size of the rallies has been +12.8 per cent, +17.8 per cent, +8.3 per cent, +23.2 per cent and +26.9 per cent. The falls have been -9.8 per cent, -15.3 per cent, -23.9 per cent, -13.5 per cent and -18.7 per cent and if we picked a smaller-income stock or took NAB out over a longer period, it would be even more dramatic.

Now tell me after 10 moves of more than 7.5 per cent in just a year that I should be worrying about the 7.5 per cent yield on the NAB. Now tell me, amid that volatility and instability, that I should mention the yield on the NAB and the yield on a risk-free term deposit or bond in the same breath. Now tell me the prudence behind selling my term deposit and buying the NAB.

The NAB and almost all other income stocks in the current market, are not stable low-risk investments; they are volatile trading stocks and the message is clear and let's make it clearer, once and for all. You cannot compare the yield on an equity to the yield on a bond because one includes no risk of a capital loss (no risk of a gain either) and the other contains a currently huge perceived risk of a capital loss (or gain).

Promoting income stocks because they yield more than a bond is ignoring that extra risk and misunderstanding why people are now in bonds and term deposits. They are there because they don't want to lose any more money. Because they don't want volatility.

The only way to compare equities to bonds or equities to term deposits is if the equities came with a price guarantee, which they don't, or if you compare risk-free yields with the expected total return from equities, which includes the extra volatility and risk and not just the dividends.

In the current market, equities are nothing like a bond or term deposit because share-price risk is dominating the investment decision not the yield. Do you really think people are in term deposits to make 5.5 per cent? No, they are in term deposits to avoid losing money. The focus is on the risk not the return. Risk rules.

But it's not all gloom. The good news is that this is not a normal state of affairs. The sharemarket is supposed to be about opportunity not risk and the fact that risk is so in focus means the opportunity side of the equation is being ignored.

Also, risk can change very quickly. Ahead of the last European Union summit the market jumped 11 per cent in four days on lower perceived equity risk. The banks jumped 19.2 per cent. If the GFC doesn't reignite, the focus is going to very rapidly swing back to yields and price-to-earnings (PE) ratios. If the GFC is behind us, how long do you think the NAB is going to trade on a 10.7 per cent yield and the market on a PE of 10.7 times against a long-term average of 14 times?

Not long. In which case the game now is not debating the marginal merits of term deposits versus equities but waiting for a chink of light in the outlook for risk, because that is all that matters and because when it appears, the herd is going to smash down the door to get to those yields and PEs.

At the moment they don't believe in them. Your job is to be on the ball on the day they do.

Marcus Padley is a stockbroker with Patersons Securities and the author of sharemarket newsletter Marcus Today. His views do not necessarily reflect those of Patersons.

Read more: http://www.smh.com.au/money/investing/comparing-equity-yields-with-term-deposits-is-lazy-20111202-1oakh.html#ixzz1flIYoklV

Gold rises to new record as investors flock to safety

Gold rises to new record as investors flock to safety
May 12, 2010 - 6:55AM

Gold futures rose to a record in New York as government debt in Europe spurred demand for the precious metal as an alternative to currencies.

Gold futures reached $US1232.50 an ounce amid concern that Europe's most-indebted nations will struggle to contain deficits after policy makers provided almost $US1 trillion in a rescue package. The metal priced in euros also reached an all-time high today, and bullion in UK pounds and Swiss francs has surged.

"This is the beginning of the unraveling of fiat currencies," said Michael Pento, the chief economist at Delta Global Advisors Inc. in Huntington Beach, California. "Money has to be backed by something. People are beginning to realize that gold is the world's reserve currency."

Gold futures for June delivery rose $US30.90, or 2.6 per cent, to $US1231.70 on the Comex in New York, compared with yesterday's settlement. The previous record was $US1227.50 on December 3.

Gold for immediate delivery reached an all-time high of $US1231.70, exceeding the previous record of $US1226.56 set on December 3.

Gold has climbed 11 per cent in 2010, following nine straight annual gains. This year, the euro has dropped more than 11 per cent against the US dollar, an index of equities in major markets is down and returns on the benchmark 10-year US were up 3.8 per cent.

"People are in panic mode," said Matt Zeman, a metals trader at LaSalle Futures Group in Chicago. "There is absolute panic over the risk of contagion spreading to other countries in Europe. Yields on Treasuries are so low, people are starting to look to gold as an alternative."

Bloomberg

A Better Way to Calculate Earnings Yield

Value Stock Investing - A Better Way to Calculate Earnings Yield
By Lee Franzen Lee Franzen


Value stock investing is a favorite method used by many long term investors to generate profits that regularly beat the stock markets annual returns. Value investors generally look for stocks that are currently out of favor with Wall Street, but also have an underlying value that should make them worth more in the future. Put another way, value stocks are currently relatively cheap - you may even want to call them temporarily on sale.

One of the primary screens that can be used in value stock investing to find candidates to buy is earnings yield (EY). This screen is available on some of the free money research sites. On the surface, EY is a simple concept - take a company's net earnings per share (EPS), divide that EPS by the price per share, multiply by 100%, and you have a percentage that equates to what the stock would yield if it distributed all of it's earnings. If you cannot find this indicator on your favorite stock screening web site, just take the P/E ratio (which is contained on nearly all of those screening web sites), and invert it - or multiply it by 1/x. Obviously, the higher the number, the cheaper the stock is relative to it's earnings.

Another way that you should consider calculating earnings yield is more complicated, but will give you a much better view of the way a company is valued relative to it's earnings. This alternate form of the EY calculation was discussed by Joel Greenblatt in his book, "The Little Book That Beats the Market". The alternative EY that he wrote about is useful in comparing stocks that have different tax rates and different levels of debt. Greenblatt's alternative formula is:

EY = pre-tax operating profit (EBIT) / Enterprise Value

First, the numerator in this value stock investing equation (EBIT) is derived from the company's income statement, and the equations denominator (Enterprise Value) is determined by adding the value of all common and preferred equity (number of shares outstanding multiplied by price per share) to the value of all interest bearing debt that the company owes. Interest bearing debt is located on the company's balance sheet.

This alternative way of calculating earnings yield is better than the much more popular E/P method highlighted at the beginning of this article, since it gives a more accurate view of what is happening with cash flows inside of a company, and also gives a more balanced view when comparing multiple companies to each other. Think about it - if a company is using debt to finance it's growth, and you are comparing it to a company with little or no debt, this method of calculating earnings yield clarifies which company is yielding better earnings relative to it's overall financial structure, and is clearly superior for value stock investing.


http://ezinearticles.com/?Value-Stock-Investing---A-Better-Way-to-Calculate-Earnings-Yield&id=3528291

Earnings Yield

A greater revelation occurs when the PE ratio is turned upside down. The inverse ratio, known as earnings yield, tells the annual percentage rate of return implied by the PE. It is simply 1/(PE).

Earnings Yield: Bond versus Growth Stock

PE Ratio and Growth

It would be nice if looking at price, P/E, and earnings yield was all there is to it. Find an earnings yield of 6% (PE of 17), beat the bond, and move on.

But you're buying equities, not bonds, right?

• Because you want to participate in company growth and success.

And why do you want to do that?

• Because, simply, you want to leave that static bond yield in the dust - if not today, sometime in the near future.
• And you want to keep up with - or better yet, beat - inflation.
• So to do that, you assume some risk that earnings won't happen, but you are hanging your hat on growth and a stock price that keeps up with it.

Given these choices, what would you do?

• Buy a bond for $100; receive $5 per year for 10, 20, 30 years; never look back.

or

• Buy a stock for $100, earnings per share constant at $5 for 10, 20, or 30 years with no change.

Should have bought the bond. Why?

Less risk.


----


But suppose the $5 earnings "coupon" grows at 10% per year. What happens at the end of year 10?

If the price were to stay the same, your $100 investment would be returning $12.97 in year 10, which is almost 13% earnings yield, or an implied PE of 7.7 at today's price.

A pretty nice yield, which really means the price of your investment should go up, because it's worth more.

This spreadsheet shows future earnings yields realized in the case of a bond with no growth versus a stock with a 10% earnings growth.

http://spreadsheets.google.com/ccc?key=0AuRRzs61sKqRcjdfd19OVTZrVVRlTUJnb05naGo3TWc&hl=en

So you can see that assessing growth is a major factor in analysing a stock price through PE.

Above all else, earnings growth drives stock price growth.

So value investors look closely at what the earnings yield is today and what will it be in the future.

Market metrics P/E and Intrinsic value

DOING LITTLE WITH MARKET PRICE

The most-quoted metric in discussing common stocks is their ratio of price-to-earnings (P/E). This states the relationship between what a stock costs and what benefit it produces.

Many people wrongly believe that value investing involves finding companies boasting low P/E multiples, but:

• not all low P/E stocks are good investments, and
• not all high P/E stocks are bad investments.
• Nor do value investors consider the P/E ratio as an insightful measure for valuation purposes, though it might be useful as a check against overpaying.

The P/E ratio can be used as a screen.

Graham avoided buying stocks unless they were priced at their lowest P/E level during the prior five years.

He also required an earnings-return compared to price (current earnings divided by price = earnings yield) at least twice that prevailing on high-grade corporate bonds.

Other value investors follow these practices. The devices protect against the whims of the marketplace. The market might not be right, but this approach limits the value investor’s exposure from it being wrong.

Value investors resist the temptation to use P/E ratios as supplements to a traditional valuation analysis. This contrasts with devotees of pure DCF analysis in valuation exercises.

When the latter’s results show a wide range of plausible valuations, they often appeal to the P/E ratios of comparable companies as a way to narrow the range.

The approach compares the price of comparable companies to their respective cash flows (P/CF). Suppose a comparable company’s P/CF ratio is 10 (suppose a price of 20 and cash flows of 2). That ratio of 10 is then applied to the subject company. Say its cash flows are 3. Its implied comparables-based value is 30. How much this helps is uncertain. The effort relies entirely on the quality of market pricing for the comparable company. While many finance professionals employ the technique, most value investors do not consider it useful.

Value investors consider the income statement and the balance sheet as sources of information concerning business value. These are superior to market-oriented tools such as the P/E ratio for two reasons.

• First, return on equity captures the full accounting picture, including debt and equity, whereas P/E severs earnings from the balance sheet.
• Second, return on equity is an intrinsic or internal valuation methodology, whereas P/E ratios are products of market or external or valuation processes.

Market metrics (P/E) tell value investors more about Graham’s Mr. Market than about intrinsic value.

Also read:

1. Stock Market Prices
2. Market metrics P/E and Intrinsic value
3. Rational Thinking about Irrational Pricing
4. The Anxiety of Selling
5. Control Value of Majority Interest