Thursday 11 August 2011

Here's Why The Stock Market Is Screwed



Henry Blodget | Mar. 6, 2011, 9:31 AM 
Now that the economy is finally starting to chug along--and now that the stock market has almost doubled off its lows--everyone's bullish again.
Uh oh.
Anytime everyone's anything--bullish OR bearish--your alarm bells should start ringing.
And there's an even better reason your alarm bells should be ringing: Fundamentals.
What fundamentals?
Prices and earnings.
Stocks appear reasonably priced when measured against this year's expected earnings, but this year's expected earnings aren't normal earnings. They're earnings inflated to near-record high profit margins.
In the past, whenever we've had unusually high profit margins, we've eventually returned to normal profit margins (and below). This mean-reversion has hammered earnings growth--and, with it, the stock market.
Is that absolutely for certain going to happen this time?
Of course not. Nothing's ever certain.
But the only reason it won't happen this time is if "it's different this time."
Those of you who have had the misfortune to live through the last three stock-market crashes--and any of the stock-market crashes before that--know why "it's different this time" are described as the "four most expensive words in the English language."
Now, bulls will argue vociferously (in a variety of ways) that it IS different this time. And you should always be happy to listen to those arguments. But given that, with respect to profit margins, it has NEVER been different this time, you should view all such arguments with serious skepticism.
Importantly, of course, profit margins and price-earnings ratios tell us NOTHING about what the stock market will do this week, this month, this year, or even next year. They're just not good short-term market indicators.
What profit margins and price-earnings ratios have told us in the past, however, is what the stock market's long-term returns are likely to be. And today's combination of near-record high profit margins, combined with high P/E multiples (on normalized earnings), suggest that long-term stock returns are likely to be lousy.
Does that mean you just just dump all your stocks tomorrow?
No.
Doing anything to an extreme with respect to portfolio management is almost always a recipe for disaster, especially when you're managing your own money (as opposed to someone else's money, which is what most money managers manage).
And in the current environment, when a decade or more of high inflation seems a distinct possibility, the last thing you want to do is get caught holding only cash or bonds.
So, as ever, you should maintain a diversified portfolio of multiple asset classes, including stocks, bonds, cash, and real-estate. If the stock portion of that portfolio has inflated massively in the past two years, however, you might want to consider rebalancing.
And, for planning purposes, you shouldn't expect the stock market to deliver anything close to its long-term average return of 10% a year.
Okay, here's the story in pictures:
First, a chart from Northern Trust's Paul Kasriel. It shows corporate after-tax profit margins as a percent of GDP (with inventory adjustments) for the past half-century.
Corporate Profits
Image: Northern Trust
Note that only 5 times in the past 60 years have corporate profit margins approached the levels they're at today. And note what happened each time thereafter. (They regressed to--or beyond--the mean.)
When corporate profit margins are expanding, profits grow faster than revenue, and stock multiples usually expand (stocks track profits over the long haul).
When corporate profit margins are shrinking, profits grow more slowly than revenue, and stock multiples usually contract.
Here's another look at profit margins, from Vitaliy Katsenelson.  This one focuses on the past 30 years:
US corporate profit margins
Yes, there is always a possibility that we're in a "new normal" in which profit margins will keep expanding for years, if not forever. (Well, okay, not forever. Even the biggest bull would be forced to agree that, at some point, profit margins have to stop expanding, or profits will get bigger than revenue.)
Based on the history of the past 60 years, however, this seems unlikely. At several points in the past 60 years, it looked like profit margins had hit a new normal, only to see them collapse to the mean. And the odds are that the same thing will happen this time.
What could bring profit margins down?
Any of a number of things:
  • Increasing commodity prices, which companies might not be able to pass through to end users
  • Higher taxes, as federal and local governments try to balance their budgets
  • Higher labor costs, as weak-dollar policies raise the cost of foreign manufacturing
  • Deflation, as companies are forced to compete by cutting prices because consumer demand remains weak
  • Recession. No one's talking about a double-dip now, but that doesn't mean we won't eventually get one. And have a look at what corporate profit margins have done in past recessions.
If corporate profit margins stay at today's high level for the next several years, the only way the stock market will deliver strong returns is if the market's P/E ratio continues to expand. Again, it's possible that the PE ratio will do this, but as the chart below from Professor Robert Shiller shows, the PE ratio is already high.
Specifically, on cyclically adjusted earnings (more on this here), today's PE ratio is about 24X, versus a long-term average of 16X.
Robert Shiller price-earnings ratio
Blue = cyclically-adjusted price earnings ratio; red = 10-year interest rate
Image: Robert Shiller
Yes, it's possible that the market's PE will stay elevated (or get even more elevated).  But it's more likely that the PE ratio will also regress to the mean.
In today's market, in other words, we have both extremely high profit margins and abnormally high PE ratios. In all previous history, both measures have tended to regress to--and beyond--the mean.


Read more: http://www.businessinsider.com/stock-market-forecast-2011-3#ixzz1UhFTUiZe

THE CRASH IN CONTEXT: Stocks Are Still ~30% Overvalued

Henry Blodget | Aug. 4, 2011, 4:23 PM |
The DOW dropped 512 points today.
And that's on top of the several hundred points it dropped last week.
The S&P 500, a broader market measure, is now down more than 12% off its recent peak.
So what does that mean?
Is it a "buying opportunity"?
Over the short-term, who knows? If this carnage keeps up, a panicked Ben Bernanke will probably rush to announce some huge new quantitative easing program. Or Congress will quickly rethink its recent commitment to "austerity" and announce trillions of new spending. And those initiatives might boost stocks for a while.
The bigger picture, however, is less encouraging. Even after the recent plunge, stocks are still about 30% overvalued when measured on "normalized" earnings--which is one of the only valuation measures that works.
Specifically, even after the crash, stocks are still trading at 21X cyclically adjusted earnings, as we can see in the following chart from Professor Robert Shiller of Yale. Over the past century, stocks have averaged about 16X those earnings. So we're still about 30% above "normal."
Shiller PE Ratio
PE ratio = blue, 10-year interest rate = red
In recent months, eager to suggest that stocks are "cheap," most analysts have talked about the market P/E ratio relative to next year's projected earnings. And relative to those earnings, stocks do seem modestly "cheap" (12X, or something).
Unfortunately, measuring stock values against next year's projected earnings has a couple of flaws. First, no one knows whether those projections will materialize. Second, and more important, those projected earnings assume that today's near-record-high profit margins will persist. 
Over history, corporate profit margins have been one of the most reliably "mean-reverting" metrics in the economy. When margins get extended to super-high (today) or super low (2009) levels, they generally revert toward the mean. This radically changes the PE ratio.
And measured on average profit margins, not today's super-high margins, the stock market is still expensive. (We discuss this in detail here).
Sadly, this doesn't tell you anything about what the market will do next.  As you can see in Professor Shiller's chart, the market has spent decades above and below the average.
What this PE ratio does tell you is that stocks still have lots of room to fall--30%, just to get back to normal, much more than 30% if they "overshoot."
And it also tells you that long-term returns are still likely to be sub-par.
Through history, one of the most reliable predictors of next-10-year returns is the valuation level at the beginning of the period. Today's valuation level is not as high as yesterday's. But it's still higher than average.


Read more: http://www.businessinsider.com/the-crash-in-context-stocks-are-still-30-overvalued-2011-8#ixzz1UhBL6Oxm

Here's The Problem With This Market Crash...

Henry Blodget | Aug. 4, 2011, 10:05 PM |
great depression

See Also:

Well, it's deja vu all over again.
For anyone who followed the market crashes of 2000-2002 and 2007-2009--especially the crash of 2007-2009--the 512-point drop in the Dow feels awfully familiar.
And as those market crashes reminded us, the downdrafts can last a lot longer and be a lot more severe than most people initially think.
(They can also reverse themselves quickly and unexpectedly, and maybe that's what will happen this time. We can always pray.)
But there are also several very important differences between this market crash and the ones a few years ago:
  • The Fed has fired most of its bullets (interest rates are already at zero)
  • Our budget deficit is already out of control, and Congress has had it with "stimulus"
  • The public has had it with bailouts
That means the government's ability to do anything about this market crash is severely limited.
Yes, we'll almost certainly have a "QE3." And maybe that will prop things up a bit. But it won't fix the fundamental problems clogging the economy, just as QE1 and QE2 didn't permanently fix anything. (The only thing that will fix our economy is debt-reduction, discipline, and time.)
To get a good sense of how hamstrung the government is, you need only look as far back as last week, when Congress was so paralyzed that it almost put the country into default rather than raise the debt ceiling.
And you also need only note that, when the 2000 crash began, the US federal budget was running a surplus, and when the 2007 crash began, the deficit was only $200 billion. Now, the deficit's about $1.4 trillion:
Meanwhile, to get a good sense of how different the Fed's position is now than it was at the start of the last two market crashes, all you have to do is look at the chart below.
In 2000, when the market tanked, the Fed Funds rate was 6.5%. The Fed immediately began cutting rates and eventually took them all the way down to 1%. (Where it left them for far too long, thus helping to inflate the housing bubble.)
In 2007, when the market began to crack, the Fed Funds rate was 5.25%. The Fed immediately began cutting rates and eventually took them all the way down to 0.25%. Where they have been as long as anyone can remember. And where they still are today, just as the market is beginning to crash again.
In short, it IS different this time. And not in a good way.


Read more: http://www.businessinsider.com/heres-the-problem-with-this-market-crash-2011-8#ixzz1Uh6pP1g9

Tuesday 9 August 2011

US recession: Avoid investing huge amounts as stock market seen nowhere near its bottom, advise experts

MUMBAI: Don't jump into the market with a suitcase full of cash as yet, experts warn retail investors, as many seem attracted at the prospect of entering the market after Monday's plunge.

"Suddenly, many investors have become extra brave and want to get into the market because they think every huge fall is a great buying opportunity. But they could be wrong because we are definitely not at the bottom of the market and there would be a lot of volatility in the near term, which the retail investors would find hard to stomach," say Devendra Nevgi, founder & principal Partner, Delta Global Partners.

"They should wait for at least six to eight weeks for a clear picture on the global scenario," he adds. But the advice is meant only for those who want to invest large sums at this point of time in stocks. Existing equity investors should continue with their regular investments like systematic investment plans ( SIPs) in mutual funds, as the long-term prospects of the Indian economy and the stock market is intact, albeit somewhat foggy, say experts.

"Long-term investors can continue to invest in stocks with a three to five-year time frame in mind," says Suresh Sadagopan, chief planner, Ladder7 Financial advisories. "Investors should use this opportunity to build and consolidate their equity portfolio. The current global problems could actually help the Indian markets as lower commodity prices, especially oil prices, could moderate inflation."

"We may also be near the peak interest rates as the Reserve Bank of India may hold rates against the current global backdrop," says A Balasubramanian, CEO, Birla Sun Life Mutual Fund. "With every fall, the valuations of stock are also getting attractive, making a strong case for allocation into equity."

Not surprisingly, investment advisors also want small investors to seriously consider diversifying their portfolio into precious metals, especially gold. Gold is already attracting a lot of investor attention, especially from HNIs, because many consider gold as the best hedge against upheavals in the global economy.

"We have been advocating gold for almost four years now. Investors should seriously consider parking 5-10% of their portfolio in gold, mainly as a hedge against uncertainties," says Nevgi. However, advisors warn investors against going overboard on gold as it could cause problems in the long term.

"I recently came across portfolios of individuals where the exposure to gold is as high as 30-40%. Sure, the prospects of gold look extremely promising, but still there is no reason for you to put all your eggs in one basket," says a wealth manager who declined to be named.

Monthly income plan is another option investors should consider at this point. "MIPs are meant for conservative investors as they invest mostly in debt and take a little exposure to equity. The debt part can unlock value in the near term when the interest rates start falling. Also, the equity valuations are attractive for long-term investment," says Balasubramanian.

"MIPs could prove a win-win situation as prospects for both debt and equity look bright at this point," says Nevgi.

http://economictimes.indiatimes.com/markets/analysis/us-recession-avoid-investing-huge-amounts-as-stock-market-seen-nowhere-near-its-bottom-advise-experts/articleshow/9534750.cms

Global shares go into a tailspin; Dow crashes over 300 points

LONDON: Global stock markets slumped, with America's benchmark Dow Jones Industrial Average plunging over 300 points intra-day on the first day of major trade today after S&P downgraded US sovereign credit rating.

Hit hard by financial uncertainty, Dow Jones index crashed over 304 points or 2.66 per cent to 11,140.40 points in the morning trade. Similarly, S&P 500 tumbled over three per cent to 1,158.97 points while the tech-heavy Nasdaq Composite index plummeted 3.6 per cent to 2,441.45 points.

Apart from the historic downgrade of the US credit rating on Friday, aggravating debt turmoil in Europe has added to the woes of investors.

Shedding marginal gains in early morning trade, key European stock markets declined as much as four per cent in late afternoon session.

London Stock Exchange's FTSE 100, Germany's Dax and France's benchmark Cac 40 dropped as much as four per cent, despite European Central Bank's plan to purchase government debt from debt-laden nations in the region.

Most of the Asian markets witnessed heavy sell-off even as there were some kind of buying at lower levels in markets such as India.

Chinese benchmark Shanghai SE Composite index, which plunged 3.79 per cent to close at 2,526.82 points. South Korea's key Kospi index and Singapore's FTSE Straits Times Index fell over three per cent to close at 1,869.45 points and 2,884 points, respectively.

http://economictimes.indiatimes.com/markets/global-markets/global-shares-go-into-a-tailspin-dow-crashes-over-300-points/articleshow/9533015.cms

Saving for studies and taking the right financial decisions

Meghna Khanna has just got her first job after graduation. She plans to work for a few years before going back to school to get a management degree. She likes spending, but is equally keen to save for her studies. Though her parents live comfortably, they are not wealthy enough to fully fund her education. Allocating a large sum towards higher studies will compromise their other goals, but they will help her as much as they can. Meghna is tempted to leave home and fend for herself now that she is employed. She likes her financial independence, but wants to be sure that she does not take wrong decisions when it comes to money matters. What should she do?

Meghna's key goal is to fund her higher education, but she must first ascertain whether her saving would be adequate to cover the cost. She should clock a conservative rate of return by using a bank deposit rate on her investments in which she will deploy her savings. For the balance amount, she can seek a bank loan. She should choose a management school that has a good placement record, so she can hope to repay the loan without any difficulty. Since her parents are willing to support her routine needs, Meghna should use this to increase her monthly savings. She should not move out on an impulse as it would significantly increase her expenses and reduce her ability to save. For her parents, this arrangement would seem a much better proposition compared with funding a large sum towards her higher education.

Since Meghna knows that she will need an education loan in the future, she should work on building a good relationship with her bank. She should ensure that she builds her deposits in one bank account and also have a clean record. She should avoid taking a credit card at this point of time and also not take personal loans. If she does take a loan, she should repay it on time and have a good credit record. Since the money that is not saved invariably ends up being spent, Meghna should begin a systematic investment plan that debits her account towards the chosen investment.

Monday 8 August 2011

Stockmarket crisis: Q&A


As markets lose billions of pounds in value this week, Harry Wallop explains how the crisis came about and what it all means.




Q. Why have stockmarkets fallen so heavily this week?
A. Markets falls when there are more sellers than buyers. Investors around the world have become increasingly nervous about where to put their money, amid fears of the global economy entering a fresh recession and the entire Eurozone area collapsing because of mounting Government debts in Italy and Spain. As a result many investors – both private and the institutions who invest our pension funds – have started to sell.
Q. So how serious is the risk of another global recession?
A. Ironically, many British companies, especially engineering firms, have reported stellar financial results this week, announcing to the London Stock Exchange that they have never enjoyed such good business on the back of a resurgence in global travel and trade.
America reported a better-than-expected improvement in unemployment on Friday.

But there are some signs that China, whose booming middle classes have helped keep global consumption above water, is starting to slightly slow down. And many economies such as Italy, America and Britain are barely moving forward. Families here, and around the world, reacted quite sensibly to the financial crisis of 2008 and started to pay off their own household debts and save a little bit of money.

While this was very sensible for individual families, it was disastrous for the economy – it meant people stopped spending, causing problems for the high street.


Q. And the Eurozone? Why is it in such poor shape?
A. It's all to do with debt. Governments in Europe have just too much debt and there is a real concern they cannot pay back their creditors.
Much of this problem has come about from the financial crisis of 2008, when governments around the world propped up the banking system – also saddled with too much debt – by transferring many of problematic loans from the private sector to the public sector. In Britain, this manifested itself in the taxpayer buying majority stakes in Lloyds Banking Group and RBS.
Many governments also reacted by pumping taxpayers' money into the economy. While this staved off a global depression, it merely delayed problems rather than solving them.
Last year, Ireland had to be given an emergency loan, so too Greece. Earlier this year Portugal and then Greece again had to be bailed out.
Now the spotlight has turned to Spain and Italy. Quite simply these countries are not earning enough – from tax receipts – to pay off its debts. And the two countries' debts together are an eye-watering £2 trillion.
Italy's debt stands at about 120 per cent of gross domestic product (GDP) – or in other words, a fifth more than the country's annual economic output – and is one of the highest in the world.
Q. Can't the European Central Bank step in?
A. In theory, yes, it could. But its special backup body, the European Financial Stability Facility has just €440bn (£382bn) of firepower, not enough to cover Italy and Spain's debts of £1 trillion, and though this figure is meant to increase not all countries have signed it off.
European countries are split as to whether they should pump more money or not. This sense of indecision from politicians is not helped by the fact many are on holiday this week.
Q. Why does it matter if Italy or Spain defaults?
A. Because the people who hold Spain or Italy's debts are indirectly millions of ordinary consumers around the world. That's because Governments raise money by selling bonds – in essence IOUs. These are bought by banks and institutional investors, on behalf of ordinary pension funds, on the understanding the government will pay an annual interest payment and return the full amount of the loan when the bond "matures", either after a few months or a few years.
If a Government defaults, it can't pay its bondholders. That's you and me.

http://www.telegraph.co.uk/finance/financialcrisis/8684246/Stockmarket-crisis-QandA.html

Opportunities amid the carnage


Nathan Bell
August 8, 2011 - 12:00PM

Warren Buffett famously said, 'be greedy when others are fearful'. That's easier said than done. With the market falling 10 per cent over the past week, 'being greedy' might be the last thing on your mind.
It shouldn't be.
Cast your mind back to March 2009. When everyone was panicking back then some of the best buying opportunities in years arose amongst the turmoil.
A flood of disappointing news has panicked investors but this sell-off is offering some equally good bargains.
The US is slipping back toward recession, Europe is following, aided by sovereign debt fears and there are genuine concerns that Chinese demand won't keep Australia's economy bubbling along.
The health of the global economy is at risk but this time, governments' ability to manage spiralling deficits and cut interest rates is greatly reduced.
While the problems are real - governments do need to rein in spending and the economy isn't recovering as hoped - in many cases share prices already reflect the bad news.
Over the past 18 months we've been advising investors to increase their cash holdings. Now is the time to deploy some of it (but not all; we may well get more opportunities down the track).
The question is where?
Avoidance strategy
Firstly, we're steering clear of the big four banks. If the economy really falters, they will be hit hard.
Better to focus on best-of-breed companies with excellent defensive qualities: stocks like CSL, QBE Insurance, Sonic Healthcare and Woolworths, all now attractively priced (although our recommendations on them differ).
For the more aggressive, less conservative investor, real value is starting to emerge in those sectors most exposed to financial markets. Macquarie Group, a very different business to what it was two years ago, currently yields 7.8 per cent after falling 21 per cent over the past fortnight.
Computershare (down 12 per cent over the past week) and some of the funds management businesses like Perpetual (down 45 per cent since October 2010) and Platinum Asset Management (down 10 per cent over the past two weeks) are also on our shopping list, as is News Corporation, already suffering from corporate scandal but plummeting a further 8 per cent over the past week.
Don't speculate
This is a challenging environment for all investors and, despite the abundance of opportunities, it's no time to be cavalier.
If you're a conservative investor, ignore speculative situations altogether. There is less reward and far more risk in buying cyclicals and speculative companies right now.
In contrast, best-of-breed companies, many of which sport attractive prices and have already found a place on our buy list, offer defensive qualities and a far gentler ride.
This is no time to be riding bareback but for the first time in a few years, I'm getting quite excited by the value on offer.
This article contains general investment advice only (under AFSL 282288).
Nathan Bell is research director of The Intelligent Investor.
For more Intelligent Investor articles click here.
Read more: http://www.brisbanetimes.com.au/business/opportunities-amid-the-carnage-20110808-1iifz.html#ixzz1URvebbzr

Wednesday 3 August 2011

Three great US stocks on sale


Scott Phillips
August 3, 2011 - 1:58PM
With Aussie dollar riding high, there may never be a better time to buy American shares.
Whole bookshelves of research have been conducted to pin down the exact reasons for currency movements, with only moderate success. Broadly, the economic growth of a country and that country's interest rates (again, relative to others) are widely accepted as two of the key inputs.
Whatever the reasons, the dollar is now sitting well above parity. For many, this has the effect of making shopping and travelling overseas much more attractive. It's little wonder the growth of online retailing has been so strong.
Just as the Australian dollar's appreciation has made buying clothes and books from overseas more attractive, the same should be said of shares. The dollar has appreciated by over 20 per cent from around $US0.90 in the space of a year. You can now buy 20 per cent more shares in a company listed on the New York Stock Exchange than you could this time last year.
Of course, that only applies if the share price is the same as it was 12 months ago. The broader point is that if today's price represents good value in US dollars, you're buying at a discount relative to that same valuation a year ago.
Buy shares like clothes – on sale
Many a value investor uses the analogy of clothes prices to explain their approach to buying shares. When the price of a shirt is reduced, you're likely to buy more, not less. While share price drops can be unnerving, they often provide an opportunity to buy great businesses 'on sale'. Rather than fearing the drop, you should be excited by the opportunity.
A cursory look at some household names on the NYSE and Nasdaq exchanges suggests that some of these companies may well be on sale.
An opportunity to buy?
Microsoft needs no introduction. The maker of the ubiquitous Windows operating system and Office productivity software as well as the must-have X-Box gaming console is trading at around the same price – in US dollars – as it was 5 years ago, while earnings per share (EPS) has grown 92 per cent. Microsoft is now selling for a price that implies little or no growth, at a price-earnings ratio of a touch over 10.
In December 2008, shares of US-based The Coca-Cola Company were trading at around US$63. Two and a half years later, they trade at a little less than 10 per cent more, despite EPS doubling since that time. Coke has a trailing P/E of only 12.6 times earnings.
Branding agency Interbrand ranked Apple as the 17th most valuable brand in the world in 2010. Unsurprisingly, given the success Apple has had with the iPod, iPhone and iPad, the share price has more than doubled in the past three years. Despite that meteoric rise, profits have grown at a faster pace – tripling in the last three completed financial years. While a price-earnings ratio of 15.7 isn't traditionally cheap, Apple's growth trajectory may well make today's price look inexpensive.
Foolish take-away
Great businesses with wonderful economics and significant competitive advantages should be at the top of every investor's watchlist. A United States-based investor has the opportunity to invest in these companies at what history may well deem undemanding multiples.
An investor with Australian dollars to deploy has the same opportunity, but with cash that today buys many more US dollars than this time last year.
Investing in shares overseas has rarely been easier for Australian investors. Many Australian and US-based brokerages offer access to US and European exchanges – just make sure you shop around for a good deal.
This article contains general investment advice only (under AFSL 400691).
Scott Phillips is The Motley Fool's feature columnist. Scott owns shares in Microsoft and Coca-Cola. The Motley Fool's purpose is to educate, amuse and enrich investors.


Read more: http://www.smh.com.au/business/three-great-us-stocks-on-sale-20110803-1iax2.html#ixzz1TwRjap00