Market Fundamentals Don't Yet Signal Time to Reenter

There is nothing left in the charts to suggest support for the S&P 500 index if it pierces the approximate 800 level (roughly 80 for its proxy SPY (SPY)).

The index has been volatile within a range between generally 850 and 1,000 over the past few weeks.

Only fundamentals remain to gauge opportunity. The fundamentals of “E” stink. The fundamentals of P/E are not supportive, because the ratio is above the long-term average.

If the index pierces 800 (SPY goes below 80), it will resemble the Road Runner cartoon character Wiley Coyote when he would race off the edge of a cliff to find himself suspended in mid-air over a deep canyon.

Wiley’s attempts to run on air back to the solid cliff never worked. We hope if that happens to the S&P index, it can catch a branch as sometimes happens in the movies to break its fall.

See our prior study of charts suggesting a possible 400 to 800 range for the S&P index, and our prior study comparing the long-term index “as reported” trailing P/E ratio to the current ratio.

click image to enlarge

We hope for the best, but have prepared for the worst. Admittedly, our mentality for some months now resembles the 1950’s bomb shelter mentality.  Not to worry though, we have plenty of canned food and water stored in our financial hideaway built of cash and bonds.

Accounts we manage are 80% to 90% cash, with most of the invested portion in corporate, Treasury and municipal bonds.  We have made minor, but punishing test investments in equities since late summer, without success.  We use trailing stops on all of our positions.

We have decided to be late to the party on the way back up to avoid destroying capital on the way down.  In such an historic period of negative economic and stock market records, we think the math favors letting braver souls create the eventual reversal.  We will invest later, unfortunately having to climb over the bleached bones of those who courageously went before us only to fall to the canyon bottom.

We will go back in, but not yet.  Minimizing risk is more important than maximizing return for most of our clients whose portfolios are mature, and who cannot replace the assets within them.  Better to avoid loss now and then do OK after a confirmed trend reversal, than to risk massive loss in the current market in an attempt to predict the trend reversal to capture all the potential on the way up.

Lottery operaters say to gamblers, “you can’t win if you don’t play”.  We say to investors, “you can’t play tomorrow, if you don’t survive today.”

We hope our re-entry comes soon, but we have no way to predict when the time will be right.  However, it should be possible to recognize when time is right when it arrives by focusing on fundamental measures of value, by waiting for mean reversion to be on our side, and for apparent levels of risk to be much smaller.

Comments

[Smarty_Pants:]

Lottery operaters say to gamblers, “you can’t win if you don’t play”. We say to investors, “you can’t play tomorrow, if you don’t survive today.”


A wonderful summary of the proper way of thinking about 'investing' in the markets from somone who, at 90% cash levels, apparently knows what he's doing.

2008 Nov 07 10:51 AM

[sportsguy:]

The trailing P/E ratio is the better method for comparison, as each number is not subject to interpretation and the E is not a subjective forecast. However, the historical range analysis can also be misleading, as the industrial sector makeup of the SP500 has changed over time. The biggest change has been the addition of the technology sector, a new industry since the seventies.

This new industrial sector growth has caused the P/Es to deviate from the prior smokestack sector P/Es of the 60s and 70s. However, how similar is today to the early 70's? wars, recession, political shifts similar to the seventies transition from republican to democratic.

Possibly, the P/E ratios of the past two decades will return to the smokestack era 70's, as the growth rates of the new technology sector returns to the same level as the general economy. faster and brighter is now fast and bright enough.

Alan Greenspan was correct in commenting that its not that the US is losing its standard of living, its that the rest of the world is catching up. So what will be the outcome when the rest of the world catches up? jobs and production will have less relative variation by location, and the difference will become the transportation costs. increasing advantage of US production for US consumption.

Long term destination of capitalism in the mature industrial and technological era? more socialism can be the only answer. why? because of the advancement of the replacement of the human workforce with automation. The result is that the economic profits will remain with the few fortunate to survive in the corporate management structure, by intelligence or by nepotism. where can this destination be found as proof? Western europe, and that is the future economic and political destination of the US as well. . . timeline, indeterminate. . .

so waiting for 70's era P/Es to bet the farm is my recommendation.

2008 Nov 07 12:03 PM

[NUKE:]

Lottery operaters say to gamblers, “you can’t win if you don’t play”. We say to investors, “you can’t play tomorrow, if you don’t survive today.”

You don't LOSE if you don't play.

2008 Nov 08 12:03 AM

[MarvinMBA:]

I suppose companies like GE that are paying hefty dividends are off limits for those that are playing a conservative game. Even if GE cuts the dividend significantly, todays price still deserves support in my opinion.

Why do I like GE? Its involved in clean energy nuclear, wind, gas turbine, transmission lines, energy, low cost transportation and a hundred other areas that support introsturcture improvement which the new administration will have to address to improve our lives and provide new jobs. MarvinMBA

2008 Nov 08 10:03 PM