S&P 500 at 600: Is It Possible?

Can anyone be coldly analytical about the stock market these days? We are in the middle of a nasty market - the S&P 500 is down 43% from its peak from 14 months ago, and many stocks are down 50-70% from their respective peaks.

During bear markets, many stocks go down a lot more than markets for no fundamental reason. There are plenty of stocks, domestic and foreign, that are down more than their fundamentals justify and that will not go out of business in this cycle (or any cycle in the foreseeable future).

The reason people are scared to buy stocks now is the fear that the stocks they choose go down a lot more from here and it is a reasonable fear, but this is not the best way to make investment decisions. Quite a few market pros think the S&P 500 could go to 600 before this bear is over (I do not). SPX 600 is an unknown, it may happen, or it may not. But, what is known is that many stocks are now at much lower prices than they were a year ago, or they are at similar prices to what they were five, or even ten years ago. Again, this information can be easily attained by looking at a chart. Not only are many of these names at lower prices, some of them are also much cheaper (lower prices as potentially nominal and cheaper in terms of common valuation metrics).

If today you know that a specific stock has a much lower price, has a cheaper valuation, and is unlikely to go out of business, and you have some cash on hand, it probably makes sense to buy a little now. I'm not saying a bottom is in and I'm not saying get 100% invested right now, but if you raised cash, have not bought anything while the S&P 500 has had a 7, 8 or 9 handle and you have not sworn off stocks, you'll probably get a price you'll be happy with a few years from now.

Could the S&P 500 go down to 600? Is that a real possibility? From Friday's close, 600 would be a 32% drop. Yes, that could happen, but the probability of a 32% drop after a 43% drop is quite low. The focus here is on what is known now versus what is feared for in the future.

Comments

[da'zman:]

Sure if its cheaper and you've got some cash to spend why not spend it. Great advice, I'm just glad I don't pay you for it.

2008 Dec 22 12:19 PM

[KIT:]

Odd that 38% drop in USD from here is possible on printing press activity and the end result of inflation. US stocks are valued in USD so their value will follow in time as people wake up to it. The baby boom cash payroll input got us to the 14000 the 50% loss just as they are retiring will prevent them from trusting the market ever again.

2008 Dec 22 12:48 PM

[guttersnipe:]

If the SPX 500 goes to 600, it will likely do so on the way to much lower levels. Take a look at the long term chart for the SPX 500. Notice the double top formed at about 1500 in 2000 and 2008. Notice the intermediate bottom at around 780. If this 780 level gets breached in a sustained way, that will be a VERY negative technical signal. Double tops are one of the most reliable and bearish technical signals out there. Breaking the intermediate bottom is a signal for much lower levels to come.

2008 Dec 22 01:12 PM

[James G:]

SP at 600: I don't know and don't pretend to, but I don't pick a number out of my hat. More stupid remarks if have heard lately: "If the market doesn't rise it will probably drift lower."....This spike up could be the start of the uptrend."...."The market wants to go higher but too many stocks are declining.".......The continuing market declines may contribute to lower mutual fund evaluations"...duhh James E Gambrell

2008 Dec 22 01:13 PM

[Moon Kil Woong:]

The correct answer is the market is downward skued and looks to continue to be that way. A healthy market is upward skued. That means it is favored to drop over time, however if it rises it is favored to rise with more upwards volatility than down volatility offsetting the higher percentage that it will fall. Ergo, the efficient market theory is still in play. That is why people don't buy in now. Why buy when it's favored to drift lower? However, why not buy if you want to gamble and get paid off bigger when it moves higher versus when it drifts lower?

Any real market analyst would laugh at speculators saying the market will drop or will rise because they should be figuring out probabilities not saying buy here or sell there. Based on the probabilities you make your risk reward decisions based upon your predisposition, appitite for risk, and fiscal condition.

It is true that the odds of most companies going out of business is small. However, when they do you usually loose all your investment. The odds that a former NASDAQ official will do a 15 year ponzi scheme is also small. Or that Enron would go belly up a couple years after record profits was also small. As Phil Laak would say, "2% is huge." It happens much more often than most people would think.

It would be best if you just said what you are doing and why and leave it at that. Don't tell people to invest because the odds are small unless you are willing to insure it like AIG insured people that mortgage default rates wouldn't reach a given threshold. We all know how well they fared betting against "almost never happens".

2008 Dec 22 01:40 PM

[HiSpeed:]

C'mon folks, stocks and housing prices only go up!

Wake me at dow 5000 - probably be a short nap!

2008 Dec 22 02:25 PM

[jepittman:]

Out of eleven comments above the responses range from patronizing skepticism to outright derision. Not one response is even grudgingly willing to consider the possibility the author MAY have a point. I maintain this is the best argument that he is likely closer to being right than wrong.

2008 Dec 22 02:35 PM

[Roger Knights:]

OK I'll say it: the author may have a point. Inflation may lift all boats, stock-wise.

2008 Dec 22 03:08 PM

[Larry House:]

Tough crowd, Roger. It is very difficult to give reasonable advice for an irrational market. There are just too many unknowns to make reasonable comments. For a long time your comments centered around this being a normal bear market, at least at that time, until it became something more than a normal bear market. Until we have proof certain otherwise, even bear market advice is going to be seriously questioned. Buying to some degree now may be wise advise. On the other hand, with the expected drop in corporate earnings in '09, it may be dangerous advice. Truth is, it makes much more sense to wait until the market tells us it is ready to move than for us to prematurely wish it and jump in before a bottom is firmly established. Keep up the good work.

2008 Dec 22 04:35 PM

[Larry House:]

One other thing, Roger. You describe your approach to asset allocation as "top-down." Usually it is the "bottom-up" view that gets one in trouble in this kind of market because company fundamentals look good, but the only problem is the market has a mind of its own and doesn't care. Most "top-down" types are sitting on their hands right now doing nothing, which, in my view is the best advice. Until the "big picture" gets better, it doesn't matter what individual companies are doing.

2008 Dec 22 04:44 PM

[jcinsf:]

Theoretically, the S&P should be based on earnings, as well as a fair market multiple of those earnings (the PE ratio). The issues facing the market now are tied to a lack of visibility into the E side of the equation. Sure, PEs have crashed to earth. But has the E side made its move? Not yet. Hold on to your hats then because its entirely reasonable to expect earnings to retreat 20+% from 2008 to 2009. This serves up weaker earnings than the so-called Wall Street pros are forecasting. Got to go with the top downers (some calling for flat, some calling for 40% retreats) who have been looking at this earnings puzzle, those analysts not in the pockets of corporate management. I've read that these folks previously called for something like $65 in operating earnings on the S&P 500 for 2008; it stands to reason (based on PEs in the 10-15 range at market bottoms) that earnings will have to stay flat or slightly grow to warrant a S&P in the 800s. A more likely scenario would seem the retreat in earnings I mention above (20+%), perhaps more as the Financial Services sector is so heavily weighted in the S&P. Not only does this make 600 possible, but likely, especially absent the support of the 2002 lows previously breached in the current downturn. Personally, I'm waiting for the mid 600s to start time averaging covers of various shorts while pivoting into baskets of beaten down, well diversified long ETFs.

2008 Dec 22 05:19 PM

[bigmoney:]

if one is short SPY, then they must be long something else. What's the next big thing? Cash? Gold? Oil (again)?

2008 Dec 22 06:09 PM

[Big K:]

The market is a reflection of both the bad economy and the corruption of our political and business leaders. The economy is collapsing with no stopping, and the crooks in Washington and Wall Street are stealing what's left while there is still something there. Time to get out, and put your money in something safe like gold. Based on this, S&P 0 will be closer to reality.

2008 Dec 22 09:57 PM

[raising4dau...:]

Roger - you've got a lot of guts posting anything neutral, let alone mildly optimistic on this board. It's pretty clear that Seeking Alpha is read by a bunch of sniveling, self-hating east-coast wienies.

2008 Dec 22 10:42 PM

[irondoor91:]

At the bottom of bear market lows over the past 70 years, the Dow dividend yield has been approximately 6.5%. The Dow yield has just climbed above 3.5% for the first time in 16 years, which has been the longest period of over-valuation in known history. It is propable that the Dow (not the S&P) will fall all the way back to the lows reached in Dec 1974 of around 500. Before this is over, we will likely see a Dow dividend of greater than 16% and effective unemployment above 25%.

For those of us who are too young to remember, investors used to demand that stocks yield more than the company's bonds due to the greater risk and the lower position on the liquidation scale. It was not until the late 20th century that investors became convinced that they would get rich quickly from capital gains. Who needs dividends when stocks will grow to the sky?

That will be the buying opportunity of a lifetime. Until then, its a bear market of historic proportions, so one should be short or in cash. For an example of shorting's profitability, review the chart of FNM. Shorted down to 35, for a 50% profit. Short again down to 17 for another 50% profit. Short down to 8 for another 50%. Short down to 4 for another 50%. Incredibly, short again down to virtually zero for a 100% gain. See the potential? That's a six-bagger at least.

Another option is to just buy some SH or short SPY for a small % of your account and you will always be diversified and hedged for the next few years. You can play the upside whenever you feel like it with your favorites.

2008 Dec 22 11:18 PM

[David Lentz:]

The thing that is strangling the economy is an excess of debt, with the debt-to-GDP level still FAR beyond what it was even at the most extreme point in the Great Depression.

I do not know how far down the markets will drop to, but until the debt overhang begins to recede (and it normally does so in cases like this in a very abrupt and painful manner), the direction for the markets remains lower.

We need to lose roughly (no pun intended) half our debt, through some combination of write-downs and pay-downs. But the Fed+Treasury are intent upon trying to inflate the old economy back to its former grandeur instead of managing a graceful national bankruptcy.

That plan won't work.

2008 Dec 23 08:59 AM

[k45:]

Gosh, all the negative sentiment! Is there anyone left to sell?

For those of you that bash Roger's comments, his comments are very similar to Warren Buffet's. Of course Buffet has a long history of inept investing....

2008 Dec 23 09:07 AM

[y3115y:]

The way Treasury is printing money just like German and China after First and Second World Wars, the results are inflation, not few percent, but million times a year.

2008 Dec 23 10:08 PM

[Kunst:]

When the US dollar is devalued by (electronic) printing press, prices will go up: stocks, houses, commodities, energy.

Do you really think we're going to pay off all that debt the honest way?

2008 Dec 24 04:31 PM

[User 368077:]

I have studied and invested with charts for years. It makes me sick to say this, but the S&P WILL GO TO (at least) 520. Every gap gets filled, and there's a big one there :( Buy your puts now.

Mar 02 03:15 PM