MaverickBian

The Worst Bear Market in Modern History?

First, in terms of volatility, I don't think this time the stock market would have been less volatile. If you zoom in on minites level or daily level, within a few weeks, DOW can add 2000 as a counter trend, yet countless bad news immediately pounched it down to new lows. In the past, we have Bear Sterns, then Lehman Brothers, and now we have GM and Citi...Sure we have more ahead if on every firm's balance sheet, assets shink a lot, then those whithout enough cash reserve and who couldn't raise capital will be forced into bankruptcy.

Just wonder, how many more firms can Paulson and Congress save?

Citi is in ER room now...

Whose will be the next?...In a word, too many...

S&P 500 Earnings vs. Valuation Matrix

sony's profit fell by 90%...

Samsung's down by 44% so far...

Toshiba down by 99%...

Honda is warning its future profit...

Corning issued profit warning today...

Remember two facts:
1. Sales volume will be lower, which means unit cost will be much higher.
2. For every dollar lost in markdown, they almost all come from profit.
This kind of profit squeeze will cut business profit sharply during economic downturn.

My guess is 30% is pretty normal, 50% is doable, and in-red for some business.

John Hussman: Preparing for Extreme Possibilities

BTW, if 30%~50% hedge funds went out of businesses, what would happen in the market place.

Today BP capital, which has built a very good history for the past decade, claimed more than 50% of its investors would redeem their money by year-end. So far, BP has lost more than 60%. So much liquidation by heavy-leveraged hedge funds within next 3~5 quarters would no doubt push down the broad market to the extreme.

John Hussman: Preparing for Extreme Possibilities

Today's rally, at best, would be short-lived.

Tons of bad news within next couple quarters from around the world would punch down S&P 500 to its new low.

More than one month money market freeze would no doubt have hurt a lot of businesses a lot, sure not reflected in this quarter but in next couple of quarters.

And housing downward trends are still intact, almost globally. If the housing market shed by another 15%, what would happen to all business investments and sonsumers spending? Try to think, if everyone's 401K shed by 30%~40%, and your house's value shrink on a monthly basis without end soon, then what would you as a consumer do? spending a lot or save a lot. No doubt much less spending, which ironically represents 2/3 of US GDP. From this perspective, you will see tons of very nasty numbers just like today's consumer confidence.

Another big concern would be higher and higher unemployment rate. If 1 million more lost their jobs at an average of annual compasation of 50K(some from very high paid industry like Wall Street), then consumers' spendings would have been hurt very much on an aggregate level.

Also, ironically, Naumuri saved Lehman Asia and MUFJ saved Morgan Stanley, but they need some super rich guys to save themselves if Neikki goes much deeper.

And most importantly, today's rally occurred only after 2:00pm with light volume. Sure, a lot of deep-pocketed guys like fund managers, in order to assure a big stampede, tried their best to build a mirage that bottom has reached. Personally, I deeply doubted it. Based on current tailspin speed, every quarter, S&P shed by 12%. If the recession will go deeper, which most analysts and economists have assured so, then we may see 600 as you first claimed in your article.

Anyway, be prepared for the raining days from now on unless you're pretty sure economy has turned around, which will be at least 2~3 quarters away.

Analysts' Forward-Looking Estimates: Just Plain Nuts

BTW, as of now, Neikki has sheded by 30% this monthly only.

And another example is SAMSUNG, which just posted 44 decline in net profit and is planning on its future capital investment in some area like LCD display. This cutback will further lead to economic downturn on a macroeconomic level.

SSMSUNG is an extreme case because compared to SONY, SAMSUNG has a huge advatage on currency WON's depliciation. Even with this advantage, its profit remained almost halved.

Just don't read into sell-side analysts' estimate too much. In an environment of high volatility, most analysts' estimates have been wrong with a statistical significance.

Analysts' Forward-Looking Estimates: Just Plain Nuts

Good Point!

Here post an example to solidate your case.

Today, SONY just haves its earnings outlook, mainly because of the Yen appreciation, the price war and the diminishing demands on its flat TV lines and digital cameras.

In other words, almost all sell-side analysts lost their reputation on such a famous firm of the very stable cash flow, and most of whom are from GS et al.

And the question is, over the downturn, the stock pricing model based on DCF is extremely qestionable for the following reasons:

1. the growth rate, may be negative or just like in the SONY case was cut in half, then the stock price will goes deep deep under water, totally not based on their past outdated estimated forward p/e for S&P at around 10 now. If you factor in this growth rate, current p/e for S&P 500 may be 20, or even higher in the SONY case.

2. Analysts got all the financial info mostly from the firm CEO/CFO, so, they have accepted their assumptions for the most part. In the SONY case, when SONY issue its new balance sheet, they made an assumption that marketable securities(mark-to-mar... issue) is based on Sep 30 number, or the market will not change too much based on this number, yet we all know that so far from Sep 30, the Neikki has sheded by almost 25%, which in financial institutions this balalce sheet should be marked to market on a daily basis for the monitoring purpose, yet in a business like SONY, they don't have to unless SEC asked them to post their quarterly statements in time.

3. Most princing models have a D/E(Debt/Equity in market value) ratio built in. If every stock shed like IBM in the past couple of weeks by 30%, then your bollowing cost - credit spread on risk-free rate will widen significantly, which will also eat into their profits by a very big slice.

Sure, we have a lot of macroeconomic factors that need to be considered.

Add all them together, you'll see over the huge downturn, you better be prepared for a 6~8 forward-looking p/e, which in reality after you have discount all these negative factors may stay at 15~20.

Another way you can predict the market move is for a huge downturn like this, every quarter tons of bad news will push down the whole market by at least 10%, then at the bottom (still 3~5 quarters away), we will see S&P at 600 or so.

Fundamental Valuation: How Low Could We Go?

From all leading indicators showed on the table, currently there's not a buttom, almost 100% sure.

You can check on these the Conference Board's 10 components by yourself:

1. jobless claims
2. stock prices
3. building permits
4. consumer expectations
5. the yield curve
6. supplier delivery times
7. factory hours.
8.new orders for consumer goods
9 bookings for capital equipment
10. the money supply adjusted for inflation

A lot of analysts and economists have posted their forecasts recently. Here I give some scenarios analysis based on how deep this recession will go.

Scenarios as follows:
2 quarters to go in recession
3 quarters to go in recession
4 qaurters to go
5 quarters to go until the end of 2009

2nd demension is how severe this recession will become:
very severe: shed 15% per quarter
moderate: shed 10% per quarter
not severe: shed only by 5%

I posted this 15% because in retrospect, S&P 500 has shed by almost 50%, from 1545 on Nov 1st 2007 to currently 940, which almost equals to 1545*(1-15%)^4 = 940, assuming past development in recession front over the past 4 quarters has been very severe.

Then you can list the outcomes according to each scenario. Because of time, I only list a couple of typcal scenarios as follows:

1. Next 5 quarters as very severe, shedding by 15% a quarters until Dec 31, 2009, then
S&P 500 will go very deep to its bottom at 940*(1-15%)^5= 417

2. Moderate for next 3 quarters until June of 2009, shedding by 10% per quarter, then
S&P 500 will go pretty deep to its bottom at 940*(1-10%)^3= 685

3. Close to bottom now: this lukewarm recession will only last for the next 2 quarters and the stock market will base here for the next year or so. But currently the market will go down a little bit deeper by 5% a quarter, then
S&P 500 will go under continuously to its bottom at 940*(1-5%)^2= 848.

Based on the expected value, I assign a possibility to each of the above three situation as 50% to 417, 30% to 685 and 20% to 848, then the real bottome for S&P, most likely, will be 50%*417+30%*685+20%*84...

Based on this analysis, current 940 sure has not been a bottom, and the real bottome may still be 38% lower based on Friday's clost at 940.

A Magic Multiplier?

My biggest question is:

This bailout plan may help banks to clean up their balance sheets and banks will start lending again, yet how come Paulson & Co stops the countinuous downturn of the US housing market?

A Magic Multiplier?

Based on M1, the multiplier is less than 2, and on M2 money supply, the multiplier is around 8.

You have to consider the money drain out of the banking system, such as cash held under your mattress.

At current stage, banks' reluctance to lend to each other also significantly affect the multiplier you mentioned above.

Also, those banks with below required reserve ratios or with a very low D/E ratio need to consolidate their capital or reserve first, which will discount this multiplier a lot.