BEHIND THE MONEY: After a 50% Drop, Stocks Could Still Be Overvalued
After a 50 percent decline since the S&P 500 set a record last year, are stocks finally cheap? It's the question everyone is asking. Playing around with the "Trends" feature on Google, I found that the number of news articles with the words "cheap stocks" have surged. More than 5,000 articles around the world today alone use those terms. I know in my world, the Fast Money traders are getting tired of me asking that question on our morning conference call.
It's a natural inclination to ask that question as share prices tank by this magnitude. If you look at the "cheap stocks" reference chart provided by Google, it is a mirror image of the the S&P 500 over the last 2 months.
Based on a new Goldman research note this morning, I may have found my answer: They are not.
Goldman's David Kostin slashed his earnings estimates for the S&P 500, predicting a 33 percent drop in 2008 and a five percent decline in 2009. The firm's portfolio strategist says that analysts outside of the financial arena have not cut their numbers by enough. They are failing to account for the seizure in credit markets and slowing global economic growth.
His 2009 EPS for the whole S&P 500 is $53 a share. That means that right now, the forward price-to-earnings ratio for the market is 15.7 (S&P 500's current value of 834 divided by $53).
According to Goldman, the average P/E since 1927 is 15.
Historically speaking, one could make the case that stocks are not only fairly valued, but even overvalued. We'll continue our valuation debate tonight.
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