Is This The Bottom?

Is this really the bottom?

As of 07 April 2020, the S&P is 21.51% below its intraday all-time high of 3,393.52 from 19 February 2020. The Dow is 23.30% below its intraday all-time high of 29,568.57 from 23 February.

Both have rallied after the initial stomach churning fall.

Have we passed the eye of the storm?

I have seven views/data points that largely suggest the worst may not be over. 

1) The 2008 bear market had a number of false starts. The S&P 500 rallied about 18% between late October 2008 and early November 2008, and 24% between late November 2008 and early January 2009, before tumbling again by about 25% before finally bottoming at a 13-year low in March 2009.

2) Visibility on 2020 earnings is still low. But past recessions were accompanied by an average earnings drop of 35%. Given that the S & P has dropped only 21% from its peak as of date, expect the bottom after at least another 15% drop. This is an average and the latest 2020 (full year) estimates as of 31 March indicate it can be as bad as a drop of 62% (energy) to 0.3% (utilities) with stock prices falling roughly in tandem with earnings.

3) The market is still overvalued by several popular price multiple measures:

• The 12-month trailing PE ratio is 20. The historical average has been 15.8

• The Cyclically Adjusted PE Ratio (CAPE Ratio) is 25.1 versus the historical average of 16.7. That represents the lowest level since 2016, but still loftier than the 16.7 average. CAPE is based on average inflation-adjusted earnings from the previous 10 years. It’s also known as the Shiller PE Ratio, or PE 10.

• The Price to Book (PB) ratio is 2.95 versus a historical average of 2.82. PB is estimated based on current market price and S&P 500 book value as of September, 2019, the latest reported by S&P.

Of course, you can argue that any price related multiple is worthless since we have zero idea of how the denominator (earnings) will pan out. In reality the PE ratios based on a shrunken 2020 earnings may be much higher.

4) Market Cap to GDP stands at 1.22 today versus a historical average of 0.8. This ratio is a long-term valuation indicator for stocks. It has become popular in recent years, thanks to Warren Buffett who has said “it is probably the best single measure of where valuations stand at any given moment”. Market cap is defined as the Wilshire 5000 Index which is widely accepted as the definitive benchmark for the U.S. equity market

5) Citing monthly research from Gavekal for April, Howard Marks, the billionaire investor and co-chairman of Oaktree Capital Management said that history going back to the 1950s suggests that a retest is almost certain:

“Markets rarely clear after one massive decline. In 15 bear markets since 1950, only one did not see the initial major low tested within three months…in all other cases, the bottom has been tested once or twice. Since news-flow in this crisis will likely worsen before it improves, a repeat seems likely.”

6) A recent Barron’s interview with Richard Bernstein is quite insightful. His reply to whether we are at a bottom? 

“We had a big conference call a few weeks ago with thousands of people. I would say the number-one question originally was “How long will this go on?’ Now the questions have shifted to, “Aren’t there opportunities?”. I say it’s unfortunate that they are asking that question, because usually that question indicates we are not yet at a bottom. Bottoms usually occur when people don’t ask if there are opportunities. At bottoms, people just assume that the horrific performance is going on forever and nobody wants to invest.”

7) Then again, you may want to listen to this guy:

“So, it’s my view that waiting for the bottom is folly. What, then, should be the investor’s criteria? The answer’s simple: if something’s cheap — based on the relationship between price and intrinsic value — you should buy, and if it cheapens further, you should buy more”- Howard Marks

Yes, but the point is we really don’t know the intrinsic value, Mr. Marks. Unless you possess a crystal glass which no one has!

Thoughts? Be sure to comment below so we can discuss it more. Or shoot me a message on my LinkedIn.