John Hussman: 'Forward Operating Earnings' As Basis For Valuation Is a Fiction

 |  Includes: DIA, QQQ, SPY
by: John Hussman

John HussmanExcerpt from fund manager John Hussman’s weekly essay on the US market:

...valuations remain rich, the yield curve remains inverted (10 year vs. 3-month Treasury yields) and interest rates are now in fairly uniformly uptrends. I cannot stress enough that the most violent market declines have always emerged from conditions of rich valuations, elevated bullishness, overbought price trends, and upward pressures on interest rates. That doesn't mean that major losses must by necessity follow present conditions, but in the face of the historical tendency for deep losses to emerge in situations like this, it would be unwise to establish an investment position that relies on continued market strength...

As earnings pre-announcements begin this week, continue to listen for comments relating to profit margins. Analysts are already slashing expectations for earnings growth. As the New York Times noted last week, analyst expectations at the beginning of 2007 were for first-quarter earnings to post year-over-year growth of 8.7%. Current estimates have been cut to an expectation of just 3.3% growth. Second quarter growth is now projected to be just 3.5% year-over-year, with full-year growth estimates down to 6.3% (effectively building rapid growth expectations into the second half to compensate). If investors no longer have hopes for a near-term easing from the Fed, nor hopes for rapid earnings growth, the only remaining notion is the belief that stocks are appropriately priced on the basis of “forward operating earnings.” As I've emphasized in recent comments, this belief is fiction.