Wednesday, November 26, 2008

Are Stocks Cheap? Will They Get Cheaper?


Martin Wolf in the Financial Times tells us, "Why fairly valued stock markets are an opportunity." With the above graph, he looks at the long run fluctuations in Tobin's Q and cyclically adjusted P/E ratios. He gets the former from Andrew Smithers. The latter comes from Robert Shiller.

To my eye, it appears that long run market trends are associated with inflation regime shifts: the World War I inflation, the resumption of the gold standard, Bretton Woods, the Great Inflation of the 1970s beginning in the mid 1960s, the Vocker retrenchment, and the Greenspan punchbowl (i.e., "We do not prick bubbles and we live in fear of the demon deflation." The traditional role of the Fed was to take away the punchbowl just when the party got interesting.)

The valuations in the 1940s and 1950s may be understated, particularly for Tobin's Q. The government accelerated the recognition of much capital investment as part of the war effort in World War II. some economists believe this led to an underestimation of the capital stock and perhaps also an understatement of reported earnings and equity.

How sanguine should we be? Wolf concludes, "investors with long time horizons (the relatively young, or institutions) are, for the first time in almost two decades, confronting attractive, although not sensationally attractive, market valuations. ... nevertheless, formidable pressures for further falls in valuations, as leveraged players continue to be forced to offload assets at bargain prices."

9 comments:

Jesus Rodriguez said...

Some stocks are very cheap now a days, so it is definitely a buyers market right now. But how long will they be this low, no one knows. The market does well one day and then the next we are in negatives again. Its like a poker's player worst nightmare. If you have the money to buy and can afford waiting it out for a while(1,2,3, hell 4 years, we dont know) then it could be worth your money.

Rafe A. Schaefer said...

I think that Martin Wolf's article on the valuation of the stock market and the future prospects for long term investors was quite interesting. Further, if his predictions that current stock holders may still be aggressively off loading some stocks rings true, buying a diversified portfolio in the stock market in the near future may be a no-brainer for long term investors.

Hopefully, as the sell-off destroys all of the "excess" that was created during the credit bubble, the capital added by new investors can help move the economy towards new growth, as opposed to just being used to "stop the bleeding" of many of these firms. Hopefully the Clintons and past members of Bill Clinton's administration learned a thing or two from this housing bubble (that they helped create), they make up most of the new President's cabinet.

T. Rowland said...

I have to agree with his last paragraph, the market has some attractive offers now at bargain prices but they are more long haul assets rather than short-term. For my generation, it could be a great way to build a portfolio, but you must choose wise companies with which to invest. I do think stocks could actually get cheaper and I wish I had a better understanding of the "game" to try and get in on the action.

Kokojan said...

I think now is the time to buy stocks, if you want to buy stocks. I believe stocks will come back up, as well as the economy.. it will just take time to get out of this recession.

Grace Hemberger said...

I believe that the stocks are not going to get much cheaper. Right now they are basically giving away stocks in hopes for more activitiy in the stock market. People would be smart if they had any extra money to invest in the stock market. It may not look like a good idea now but eventually the economy will go back up and it would be a wise decision to invest in the future.

The government is finally stepping in, so I believe that stocks could possibly go down a little bit more but not for much longer. The prices will probably be at a stand still for awhile until the government knows for sure what they are doing but will eventually prices will start increasing once again.

Nathan Read said...

The current recession has made my graduation in May scary. With unemployment being a trailing indicator, it is terrifying to think that the job market may get worse as the time gets closer for me to join the workforce. However, I guess, the revaluation of the market is a silverlining. When I do begin investing, to know that the valuation of my stocks will no longer be overvalued is reassuring. A great point is made in the article about how "leverage can work both ways." One thing that has become clear is that firms have been to concerned about earnings and thus levered themselves too much. Now the market is cleaning up such firms so that the truly strong will remain. That is something to take comfort in.

Luke Flanagan said...

I believe that the stock markets prices are currently low, but they will not be this low for very much longer. For younger/less experienced investors thinking long term, this is a good thing and this would be the best time to invest, but it does not have much of an effect on many other people. I believe stock prices will continue to fall or stay low for the next 3-6 months before the begin to raise and start to stablize!

Kevin T said...

i believe as the US get hurts more by this current recession, the price of stocks of failing or economically hurt companies will need to drop them. When the price of stocks are low, they are more attractive and cheaper to buy with the potential of growing to a mass amount. Also, as stocks are cheaper, more people would buy them, in return helping that company and helping the stock market. Then again I am not a professional on the stock market but this is what I think would happen.

Kenneth Shockley said...

Yes, we have been having this discussion for awhile now. Do you buy, because there are some great deals... or do you wait a day for the deal to get even sweeter. I think this posting is saying that if you still have money, that it is a good time to invest it long term. Even if the deals gets better the next day, the long term return should be quite substantial.