Close to the End of the Selling Cycle

Throughout history, the best time to buy stocks has been when valuations were low. No economic or fundamental variable other than valuation was predictive of long term stock returns. By definition, in order for valuations to be low the consensus must be that stocks are unattractive. If the consensus were that stocks were attractive, everybody would be buying and valuations would no longer be low. Generally, when everyone is bearish there is economic turmoil and uncertainty.

Today's market valuation is among the lowest in history. There have been cases where the market has traded lower but longer term returns from current valuation levels have been very satisfactory. I have been scaling into the market with the intent of becoming fully invested if the S&P 500 reaches 600, which would be very close to the most extreme valuations.

As I look around, I see stocks that have the potential to double and triple in value. American Express (AXP) shares trade at five times the earnings of just their transaction processing business. Microsoft (MSFT) trades at six times free cash flow. Boeing (BA) trades at six times earnings. These stocks will almost surely double in value when this bear market finally ends. I wonder if I am not being penny wise and pound foolish by holding out for even more extreme valuations.

Currently, we are stuck in a cycle where lower prices are leading more people to liquidate and short sellers to become more brazen, which leads to yet lower prices. There are numerous clues that suggest we are very close to the end of this. While we might need a final capitulatory move lower from here, I believe those losses would quickly be recouped if they occurred.

Disclosure: Long AXP.

Comments

[prudentinve...:]

There are some investors who have legitimate concerns that many stocks may not recover for a very long time due to the changes in consumer behavior and global economic balances. For instance, who is to say that AXP card holders, some of whom are being paid to just "go away", will resume spending (and paying their bills!) in anything like the past decades? In the case of BA, who is to say that global travel will return to the overheated excesses of the past decades, in which "Joe Sixpack" hops on coast-to-coast flight for a weekend out? Additionally, both these companies have balooning pension liabilities.

So yes, the stocks are at multi-year lows, but perhaps for good reasons, and perhaps these reasons are not going to disappear soon.

Mar 09 08:06 AM

[mc2406:]

Trying to rationalize this irrational market is hopeless. I agree with prudentinvestor's comment. Better to wait for some ecomomic good news, and the uptick rule to be reinstituted.

Mar 09 08:23 AM

[pacman1947:]

Call it a downdraft, a death spiral, or irrational depression, I believe that our first two reactions above are accurate. The stocks are down for hundreds of reasons, or trillions if you see the mapping. Our overseas markets are tanking worse than America's businesses, and we are not providing upward momentum in any venue. We shook out the day traders "yesterday" from any long term positions. This is a speculators market, and the rules are no longer enforced. Non Illegitimus Carborundum.

Mar 09 08:39 AM

[Mad Hedge F...:]

The short squeeze is coming. Looks like there is a massive short covering play setting up in the financial sector. There was big hedge fund buying of calls and call spreads in the Financials Select Sector SPDR ETF (XLF) at the end of last week. The healthy components of this basket, like JP Morgan (JPM) (12%), Goldman Sachs (GS) (7%), and Wells Fargo (WFC) (6%), are at record low valuations. The sick one like Citigroup (C) and Bank of America (BAC) are essentially at zero. This makes your downside risk very low. Watch this space.

Mar 09 12:56 PM

[E Thomas St.:]

This stood out to me today as well. Wednesday (and Friday to a very weak extent) of last week was one of those days where the financial sector got beat down despite it being an up day for the rest of the market, and today the opposite occurred where the rest of the market took a hit but financials held about even or slightly up.

I don't think this is indicative of a turn around but it is interesting to note.


On Mar 09 12:56 PM The Mad Hedge Fund Trader wrote:

> The short squeeze is coming. Looks like there is a massive short
> covering play setting up in the financial sector. There was big hedge
> fund buying of calls and call spreads in the Financials Select Sector
> SPDR ETF (seekingalpha.com/symbo...) at the end of last
> week. The healthy components of this basket, like JP Morgan (seekingalpha.com/symbo...)
> (12%), Goldman Sachs (seekingalpha.com/symbo...) (7%), and
> Wells Fargo (seekingalpha.com/symbo...) (6%), are at record
> low valuations. The sick one like Citigroup (seekingalpha.com/symbo...)
> and Bank of America (seekingalpha.com/symbo...) are essentially
> at zero. This makes your downside risk very low. Watch this space.

Mar 09 05:45 PM

[oldman:]

Might it be better to simply use SPY or SSO or specific sector indices rather than pick stocks at this stage?

Mar 10 09:52 AM