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S&P500, what's a fair level?

purealpha wrote:

Galli wrote:

They should be made illegal because their earnings growth methodologies differ from yours?

Maybe you aren’t good with basic math. Well, you have a lot of company, especially in the USA! ;)

Their “earnings methodologies” are picked from the available methodologies because they produce the most favorable result.

More hot air coming from the Far East…

#ChineseAccounting

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pa is the guy who thinks stocks are their most expensive at their troughs. hey pa, did you know that P/Es are their highest at market bottoms, not market tops? even if the trailing P/E for the last year spikes from 18 to 23, or whatever, this is because of an earnings trough and is not indicative of the next 50 years. you can’t say that earnings will continue to grow at some long-term rate if earnings just fell 25%. this is why we have an analyst community. to normalize earnings so that we can look beyond basic P/Es for investment purposes. normalized P/E is still around 18-20x.

Matt Likes Analysis wrote:
hey pa, did you know that P/Es are their highest at market bottoms, not market tops?

Ummm… Is this true? You’re assuming at the bottom earnings have fallen more than prices in a correction? I don’t believe this to be true.

“I can no longer obey. I have tasted command, and I cannot give it up.”

^For brief pockets of time (i.e., the quarters right after the bottom of the bag has broken), this is true.  2000-2001 and 2008-2009 are perfect examples.

#http://www.multpl.com

using the link as a hashtag… brilliant 

'A flute with no holes, is not a flute. And a donut with no hole, is a danish'

Matt Likes Analysis wrote:
even if the trailing P/E for the last year spikes from 18 to 23, or whatever…

It’s not “even if” or “whatever”, it is a quantifiable number and it happened, 23X as of Q3 per S&P.

Matt Likes Analysis wrote:
even if the trailing P/E for the last year spikes from 18 to 23, or whatever, this is because of an earnings trough and is not indicative of the next 50 years. you can’t say that earnings will continue to grow at some long-term rate if earnings just fell 25%. this is why we have an analyst community. to normalize earnings so that we can look beyond basic P/Es for investment purposes. normalized P/E is still around 18-20x.

Forward earnings from the “analyst community” are obviously nonsense. They have been wrong (massive high) over and over again and have zero credibility. These are finance sector employees, selling a product. The ONLY valid number is the earnings that actually happened (trailing, as reported). You then run your own REASONABLE forecast. 

The fact remains, trailing P/E, for which we have a 100+ year history, is VERY high. I did more sorting thru data on this, excluding post-crash distortions, the current ratio of 23X has only been higher 3 times in the last 100 years. Dec 1921, Jan 1992, and the years leading into the dotcom collapse.

http://www.multpl.com

hashtag wrote:

More hot air coming from the Far East…

It’s called math. My figures are there to check. Your figures are nowhere, just hot air. 

I used to believe that trailing earnings were the figures to use because they didn’t depend on partly subjective estimates of growth and market share and profit margin trends. But it turns out that trailing PE’s are one of the least correlated indicators of forward returns (not negatively correlated, just close to zero) in the short and medium term, and for the long term it turns out that they aren’t different enough from forward earnings to make much of a difference, because forward PEs still tend to herd around the trailing PEs with just incremental differences that don’t mean much for the long-term that you can’t already get from trailing earnings.

The PE has been above the long term average since the mid 1990s, with minor exceptions at the trough of the dot com burst and credit crisis.  So one can wait an awful long time for PEs to revert, long enough that you can be out of business and/or dead by the time you’re right.

I agree that rising interest rates are a major headwind, but if they rise rapidly, then then there is a long time for prices to reset and then adapt, and if they rise slowly, then the biggest effects are likely to be in the begining because we are so close to the zero bound.  All of this means that we could very well be in for a bumpy ride, but not that modest growth rates of equities are impossible.

If we assume that a PE of 22 goes down to something more like 18, then what’s required to get 3500 are total returns of more like 9.2% annually.  That does seem like a bit of a stretch, but could be achieved with less growth if high inflation kicks in.

You want a quote?  Haven’t I written enough already???

Drinking coffee and crunching numbers on Sunday morning; the fundamentals behind this bull market get worse the more I dig…

You never want me to find an error in your math, because if I do, I check EVERY number until I’ve nailed down the whole deal. What got me started on this S&P500 valuation project – if you ask 10 retail investors, and 10 professionals, “what are the earnings”, you’ll get 20 different numbers. That is a red flag. After a month of digging, I think I’ve taken this about as far as it can go.
 
Here are the real numbers as a public service announcement. This is the most important post on AnalystForum this year dammit, so get a coffee, open Excel, reproduce the math, and make sure you know what you are holding if you own S&P500 stocks, there is a lot of statistical manipulation out there…
 
—————————————-
WHAT ARE THE REAL EARNINGS?
Authoritative earnings are the key number we need for any model or valuation. If we start with a nonsense number, then all subsequent analysis is nonsense. So you can’t use numbers from “FactSet”, Reuters, Bloomberg articles, WSJ, etc…those are all made up numbers. We can put all the confusing numbers out there into categories…
 
1) “Operating earnings” or “adjusted earnings” are bull**** numbers. There is no standard, different companies and analysts make different adjustments, not only are they inconsistent by company, but they are inconsistent over time for the same company. If you start with these earnings as your base, you can’t compare to prior periods, nor use the 100yr history. Plus the spread between these numbers, and the official GAAP numbers, has been increasing since the start of this bull market. A huge red flag.
 
2) “Forward earnings” are bull**** numbers. These are always unbelievably high, and are adjusted down right before actuals come in, so they can “beat expectations”. Forward earnings, and the expectations created by them, shared by companies like “FactSet”, are useless…notice that these companies are careful to never quote trailing as reported earnings, ever.
 
3) “Share-weighted earnings” are bull**** numbers. The proper way to calculate any S&P500 index earnings-related number is [aggregate earnings for quarter / divisor]. Example Q2 ‘15 was $201.4B as reported earnings / 8831 divisor = $22.80 EPS. Let’s say Exxon reports a $10B loss, that is an absolute value, their size is already accounted for, you as an index holder take that loss. If you weight earnings to make the losses look smaller because energy is a smaller sector, like Bloomberg does, you are making up fantasy numbers…this is simply mathematically wrong. Weighted earnings: they don’t add up… and you may get burned (by S&P)
 
4) “As reported earnings” are the real GAAP earnings reported in the financial statements. Everyone follows the same rules (more or less), or they go to jail. These are written in stone; once they are reported, that number to the penny will never change. It’s the best we’ve got. They are reported by S&P labeled “as reported trailing twelve month EPS”. That is our authoritative earnings number; GAAP data as crunched by S&P’s senior index analyst Howard. Q3 EPS (ttm) = $90.85, 23.0X as of Nov27 ‘15.
 
Any future earnings will eventually become these trailing GAAP earnings, until that happens, it’s all fantasy. If you need to forecast, use as reported trailing as your base, and generate your own REASONABLE forecast on that.
 
—————————————-
EXAMPLE OF NONSENSE EARNINGS
Q3 (ttm) EPS from S&P are: as reported $90.85, operating $104.14, forward+operating $122.35. Forward-operating is absurd of course, but it is how they keep telling the noobs that it’s cheap P/E 17X instead of 23X. Other companies use different operating/forward numbers than S&P, Reuters estimates differ dramatically, so none of this will ever tie out. As reported is the only solid base.
 
—————————————-
BUYBACKS, A COMPLICATION
We’ve still got a major problem with using trailing as reported EPS as the driver for our models and valuations though; it is manipulated by corporate America by tweaking the denominator. You can download buyback data from S&P, I modeled it this morning. Roughly speaking, as reported EPS without the last 5yrs of buybacks, would be more like $83. So P/E isn’t 17X fantasy-forward, and it isn’t even 23X trailing, it’s more like 25X. Bloomberg on buybacks
 
—————————————-
SO WHERE DID RETURNS COME FROM IN THIS BULL MARKET?
Disaggregating the S&P500 5YR total return, step by step, nailing it the f@#$ down to authoritative S&P data. Check it out yo…
 
5YR TOTAL RETURN 15.3% CAGR
= EARNINGS GROWTH 2.5%
+ BUYBACKS 2.3%
+ DIVIDENDS 2.4%
+ MULTIPLE EXPANSION 7.7%
[ERROR 0.4%]
Q3 2010 to Q3 2015 TR as calculated by S&P (plus adding on the index appreciation to Nov27th, ending value of 2090).
 
In order to nail this down, we have to realize the 5YR 4.8% EPS (ttm) growth rate from $71.86 to $90.85 is partly buybacks. Aggregate as reported earnings grew from Q2 2010 $178.0B to Q2 2015 $201.4B, a 2.5% CAGR (Q3 is not available yet). Which means the 4.8% EPS growth = 2.5% earnings + 2.3% buybacks (roughly, this is hard/impossible to get perfect). Crosschecking this confirms we are close; S&P reports the Q2 (ttm) buyback yield was 3.0%, and Bloomberg reported buybacks added 2.3% to EPS growth in 2014 (link above).
 
Since we know total return and dividends, and now we know earnings and buybacks, the remaining return is multiples. We can cross check this; P/E expanded from 15.9X at the start of the period to 23.0X, a 7.7% CAGR. I have a 0.4% error which showed up when I started trying to break out buybacks, so either earnings growth or buybacks must be understated. 
 
—————————————-
BULL MARKET SUMMARY
 
S&P500 companies are only doing ~2.5% earnings growth for the last 5yrs (which after inflation of 1.7% is only 0.8% real earnings growth). They aren’t investing in the future, they are currently paying out more in buybacks+dividends than they actually make in earnings…essentially liquidating their companies (we saw this is late 2007 also). Over the last five years there is a 10% annual return from buybacks and increasing valuations, both of which were fueled by ZIRP/QE, and are unsustainable. That’s a fragile starting place for a 10-yr forecast: risk of multiple contraction, earnings recession due to lack of investment, increased share issuance (reverse of buybacks) or increased debt expense as rates raise.
 
Don’t say I didn’t call it hommies, and remember I called subprime in Q4 ‘07 also. Timing is hard, but this game is approaching check-mate. The math hits a wall. 
 
SOURCE: S&P, http://www.spindices.com/indices/equity/sp-500 “additional info” dropdown, Excel download: “index earnings”, “stock buybacks”, “monthly and annual returns”. Pull more history from http://www.multpl.com (Josh uses S&P’s numbers too, with a philosophy of “just the facts no spin”, I’ve spot checked his math, never found an error, that’s rare for me).

fyi, noobs never see forward earnings. and bchad is right that forward earnings are more telling than trailing earnings because of the effect of write-offs and the fact that earnings declines are always temporary.

all i hear when you defend your stance is that you think the worst times in history to buy stocks was March 2009 and early 2002. because that’s what you’re arguing.

"You want a quote? Haven’t I written enough already???"

RIP

I bumped into an additional bit of data that really illustrates just how inflated stocks prices are – while we aren’t at dotcom mean valuations which hit 29X, we are way beyond dotcom when looking at the median. At 23X trailing, S&P500 is higher than anything since 1950 (chart on pg2 in link below).

“In the late 1990s, surging technology stock prices caused the overall S&P 500 P/E multiple to reach record highs even though the median stock’s P/E multiple never became excessive. Conversely, today, although the S&P 500 P/E multiple remains far below record highs, median valuations are at a pinnacle.”

http://www.wellscap.com/docs/emp/20150108.pdf

looks like bro will finaly make some money angel

http://bloom.bg/1Qu9Btv

"You want a quote? Haven’t I written enough already???"

RIP

Update to this still very relevant thread…

S&P500 Q1 earnings (with 98% of companies now reported):

As Reported Earning (ttm) = $86.44

Price = 2065

P/E = 23.9X

Earnings decline (ttm) = -12.9%

And remember, that 24X P/E is AFTER all the buyback manipulation. Been shorting every time it goes over 2100, and will keep doing that.

Excel data direct from S&P, all other number from “FactSet” Bloomberg etc are intentionally manipulated bull****: http://kr.spindices.com/documents/additional-material/sp-500-eps-est.xlsx

Some things to think about regarding the S&P

Business Investment has lacked substantially the last few years >> consumers haven’t had the same support from corporations as they have had in previous business cycles>> The U.S. stock market has boomed, but the U.S. economy hasn’t experienced a boom like previous ones. Monetary conditions have been easy, but lending conditions haven’t been. Inflation has been quite low, high inflation ultimately eats at multiples. So higher multiples are not neccessarily unjustified in a low inflation environment. Combine this with low interest rates and you now have many stocks being a better alternative than low paying bonds (after the bond price increases of course). True, this means the bonds still have real returns, but if you expect any noticable pickup in inflation over the long-term you can essentially kiss that real return and that bond price goodbye. 

All in all, when you look at a broad picture of the U.S. economy (in comparison to it’s past, not to other nations), you get the sense that it’s still in recovery mode. The last couple years have seem some major signs of improvement, but the U.S. isn’t there yet. What kind of profits would companies start to have in a few years time if they have worked through minimum wage hikes, interest rate hikes, the last remnants of the financial crisis, and the end of lackluster business investment? 

I think that multiples may be a bit high, but if you look at the upside potential, maybe they’re not that stretched for a long-term investor. Some portions of the S&P probably are overvalued though.

Personally, I would welcome any market downturn as a great buying opportunity. 

 


haha i like the analysis purealpha. i actually did a factcheck on this a while back as well. i didnt do the breakdown however. I also used shiller’s data. enjoy. this is better/more stuff.

http://www.econ.yale.edu/~shiller/data.htm

i agree with most of what pure alpha said. i think forward earnings are dumb as well. actual earnings are better.  which is why free cash flow is a better metric. also if you want to remove the effects of buybacks. just use enterprise value instead of market cap/price, since debt is incorporated. 

http://www.wsj.com/articles/s-p-500-earnings-far-worse-than-advertised-1...

sadly, though only a few companies in hte S&P 500 follow GAAP. 

http://www.another71.com/cpa-exam-forum/topic/only-57-of-sp-companies-us...

anything with manipulations is ridiculous, i dont care if its not going forward, if you made the mistake and made a loss that **** needs to be incorporated.

http://www.cnbc.com/2016/03/01/mind-the-gaap-buffett-warns-of-deceptive-...

a ceo’s job for the most part is to increase share price. but as an investor, your job is to sift through the bs they feed you.

http://www.cnbc.com/2016/05/02/the-most-authentic-line-in-silicon-valley...

I love my cheese. I got to have my cheddar.

Neryblop wrote:

i agree with most of what pure alpha said. i think forward earnings are dumb as well. actual earnings are better.  which is why free cash flow is a better metric. also if you want to remove the effects of buybacks. just use enterprise value instead of market cap/price, since debt is incorporated. 

forward earnings aren’t the key. normalized earnings are. forward earnings incorporate analysts’ normalization. pa is using unadjusted data. he is on a CFA forum but is not performing the sole job duty of a CFA which is to normalize earnings.

while earnings are certainly not cheap, irrespective of what metric you use, with negative interest rates in most developed markets, if equities acheive a long-term return of 2%, you’re laughing. same goes for housing. canadian house prices, which are deemed to be crazy overpriced by every economist on the planet, are actually cheap compared to 30 year yields worldwide, and potentially compared to equities. you heard it here first. i think canadian house prices are undervalued based on interest rates and long-term interest rate expectations. current carrying costs on the average Toronto house is about 2/3rds of the historical carrying cost, in order for Canadian housing to have the same carrying cost as in the past over the life of a 25 year mortgage, the average interest rate would have to average 4.5% on a 5 year fixed rate mortgage in years 5-25, the years after the first 5-year term. not going to happen. thus while real estate will return a much lower rate than in the past, its return is still attractive relative to other assets and its carrying cost is far lower. canadian housing, including toronto, is very likely undervalued relative to the past given the current outlook for asset returns in general. vancouver is likely just fairly priced.

BankThatDank wrote:
The last couple years have seem some major signs of improvement, but the U.S. isn’t there yet. What kind of profits would companies start to have in a few years time if they have worked through minimum wage hikes, interest rate hikes, the last remnants of the financial crisis, and the end of lackluster business investment? 

I think that multiples may be a bit high, but if you look at the upside potential, maybe they’re not that stretched for a long-term investor. 

Personally, I would welcome any market downturn as a great buying opportunity. 

One problem, the S&P companies haven’t been investing in their future, they have been doing share buybacks greater than their earnings (to manipulate P/E down to this 24X number). Obviously unsustainable.

Also, not sure how much the largest 500 US companies can really grow revenue. They are already huge. The middle class are already fully cannibalized. How much more Pepsi does the planet need? Maybe they are coming up against a revenue growth ceiling.

I would buy, but it would have to be a very large downturn. In the meantime I sell calls at 2100 and sell puts at 1800, probably repeat this for years until they work thru this stall.

purealpha wrote:
Been shorting every time it goes over 2100, and will keep doing that.

Speaking of which, just about that time for more easy money!! yes

Almost touching 2100, “oh yeah Brexit is over!” greed fest. This run back up has happened pretty darn fast, gonna chill till tomorrow AM and see what happens, maybe sell some 2100 calls expiring after the US election. I’d like to see a plump 2110 and short that ****er w futures.

Howard Marks figuring out things are grim; prices high, rates low, equity returns projected to be slim, not enough to meet liabilities for some…

“Returns are extremely skimpy thanks to the central banks lowering the capital market line,” Marks said at the Bloomberg summit, where he was interviewed by Bloomberg Television’s Erik Schatzker. “We have very, very low prospective returns at the same time that we have macro uncertainty. That’s an unattractive situation.”

http://www.bloomberg.com/news/articles/2016-09-28/howard-marks-says-inst...

This is what I keep pointing out, the current 25X P/E on SPX is materially understated, due to all this buyback manipulation…

Q2,’16 buybacks helped 26% of issues increase EPS at  least 4%.

https://twitter.com/hsilverb/status/781131782733324288

Because they haven’t been investing in the future, they know it’s likely down hill from here…

—————————————————–

About the only thing with less precedent than the benchmark index’s six-day streak of alternating up-and-down moves since Alcoa Inc. reported results has been the refusal of companies this earnings season to say anything to help clarify their future. There were 20 instances of any kind of quarterly or annual profit guidance this month through Monday and 21 in September, roughly a third of the usual volume, according to data compiled by Bloomberg and Bank of America Corp. Last month’s total was the fewest on record.

http://www.bloomberg.com/news/articles/2016-10-18/ceos-go-silent-on-futu...

purealpha wrote:

BankThatDank wrote:
The last couple years have seem some major signs of improvement, but the U.S. isn’t there yet. What kind of profits would companies start to have in a few years time if they have worked through minimum wage hikes, interest rate hikes, the last remnants of the financial crisis, and the end of lackluster business investment? 

I think that multiples may be a bit high, but if you look at the upside potential, maybe they’re not that stretched for a long-term investor. 

Personally, I would welcome any market downturn as a great buying opportunity. 

One problem, the S&P companies haven’t been investing in their future, they have been doing share buybacks greater than their earnings (to manipulate P/E down to this 24X number). Obviously unsustainable.

Also, not sure how much the largest 500 US companies can really grow revenue. They are already huge. The middle class are already fully cannibalized. How much more Pepsi does the planet need? Maybe they are coming up against a revenue growth ceiling.

I would buy, but it would have to be a very large downturn. In the meantime I sell calls at 2100 and sell puts at 1800, probably repeat this for years until they work thru this stall.

Good points. The lack of investment from businesses only necessitates the need to do so in the future. Buffet even mentioned this about his railway company. He see’s some major investment costs coming up in the next decade. This is kind of how I see things for the entire western world. There is a disparity between the kind of products we are capable of making and the products that are being put to market. We need to overhaul the economy before we can break through that revenue growth ceiling. As I said in my first comment, this means higher wages for workers, renewed investment from businesses, normalization of policy rates, etc. I think in 10 years time we will be well past all this stuff. 

In hindsight you can say ya sure the business world was right not make investments at previous rates (overall, obviously some industries have flourished and were making significant investments), economic performance was weak and thus prospective returns were low enough to dissuade investment. Thing is though, I’m extremely bullish on the entire world’s economy for the rest of my lifetime. I can’t picture a stagnating world for the next 50-70 years. Long-term economic factors of land labour and capital  (or labour capital and TFP if you will) are simply too strong. The world will boom harder then ever before. Going forward we’ll likely see some noticeable changes in the makeup of the S&P list. That’s what I love about indices. Industries come and go, but the S&P is still there. 

BankThatDank wrote:

That’s what I love about indices. Industries come and go, but the S&P is still there. 

weird statement. what does that even mean? you love some aggregated piece of data more than the excitement brought by individual companies?

I think I get where that’s coming from:  companies can go bankrupt, but it’s rare that everything in an index goes to 0 (usually that involves revolution or losing a war).

You want a quote?  Haven’t I written enough already???

Matt Likes Analysis wrote:

weird statement. what does that even mean? 

It’s a rational statement. You can buy a dynamic list of the 500 largest companies, and not have to make decisions about individual industries or companies, ever.

bchad wrote:

I think I get where that’s coming from:  companies can go bankrupt, but it’s rare that everything in an index goes to 0 (usually that involves revolution or losing a war).

does the market really go to 0 even when losing a war?

"You want a quote? Haven’t I written enough already???"

RIP

It can.  

Remember that the causality was:  if the index went to zero, losing a war may be the reason.  I think the last time this happened was WWII, though maybe it happened in Iraq.

That’s different than:  if you lose a war, your market goes to zero. 

You want a quote?  Haven’t I written enough already???

if by losing a war you mean every private asset in your country has been turned to nuclear dust and every company’s foreign assets are expropriated, or turned to nuclear dust, then yes.

also, he didn’t say “i love well diversified portfolios or a portfolio consisting of stocks in a specific index”, he said “i love an index which tracks the performance of various companies”. that’s like me saying “i love my favourite team’s stats page far more than the team itself”.