Stocks Are Cheaper Than They've Been in Two Decades

U.S. stocks are trading at their cheapest levels since at least 1990, according to such commonly used valuations as price-to-earnings and price-to-book ratios as well as dividend yield, Bespoke Investment Group says.

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This realization will lift the S&P 500 Index by 11 percent to 1,400 this year or maybe more, according to the research firm’s 2012 outlook report.

“The S&P 500 is currently trading below its historical average P/E and P/B ratios, and these ratios are also at their lowest levels in the careers of a large percentage of money managers,” wrote strategists Paul Hickey and Justin Walters.

“While the current level of earnings is by no means guaranteed, theeconomic backdrop in terms of the US economy remains stable to positive," they added.


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"There is no denying the fact that the recovery has been tepid, but the manufacturing sector has been a pocket of strength, while the employment pictureis really beginning to show improvement.”

The S&P 500 is already on track to reach or exceed this forecast, up more than four percent in 2012. Better-than-expected economic data and an emerging bailout solution in Europe are behind the gains.

To start 2012, the benchmark had an earnings multiple of 13, the lowest since 1990 and below the 80-year average of 15, according to Bespoke. It would take a move back to 1,484 to get the benchmark back to this long-term mean P/E.

The price-to-book ratio is 2.05, below the average since the late 1970s of 2.43. To get back to that average P/B, the benchmark would need to increase to 1,491.

One more valuation—dividend yield—points to above 1,400, argue the two strategists.

“At the end of 2011, the S&P 500 was yielding 13 percent more than the 10-Year US Treasury,” wrote Hickey and Walters. “Outside of the credit crisis, the last time the S&P 500 yielded more than the 10-Year Treasury was before 1960."

They added: "In order for the dividend yield to get back to its historical average relative to US Treasuries, either the 10-Year yield would have to rise back above 2 percent, the S&P 500 would have to rally to 1,410, or you would have to see some combination of the two.”

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