Stock prices around the world continue to climb. Most economic indicators are rising from severely depressed levels. Central banks on balance remain committed to stimulus. Although consumer balance sheets remain depressed, and employment statistics lend little encouragement, government-induced liquidity appears to be trumping any negative conditions, and cash continues to flow into common stocks.
Such positive market action can continue as long as investor confidence remains elevated, so there is no necessary ceiling to the current rally. We repeat the warning from our August 27 posting, however, that while speculative equity positions may yet prove profitable, stocks are clearly not cheap. The Standard & Poors Corporation projects the price-to-earnings ratio on operating earnings (everything but the bad stuff) for its S&P 500 to be 27.1 for the almost completed third quarter. Using reported earnings, which include the past year’s massive write-offs, the PE multiple is an unprecedented 195 for the year ending this month. Although not as extreme, all other commonly used measures of value are historically very high. Stockholders have to hope that the green shoots blossom into gorgeous flowers. They could, of course, but the cost to play in that botantical sweepstakes is extremely high.
Interestingly, the enthusiasm for stocks, presumably because of a positive outlook for business conditions, has not precipitated any fear of inflation in the bond market. Intermediate and long U.S. Treasury yields have fallen substantially from their recent highs. At the very short end of the curve, the 90-day Treasury bill yield of 0.14% shows that fear remains a dominant emotion. Investors are willing to loan money to the government for essentially no return. Such a miniscule yield suggests that the fear is certainly not of inflation, but perhaps of deflation or some kind of systemic implosion.
Another interesting question: Despite the huge growth in the Chinese economy, why is China pumping up its M2 monetary measure at an almost 30% year over year rate? What is China afraid of? Apparently not inflation, at least not yet. We’ll continue to evaluate these questions in future postings.
Have a great weekend.
Tom Feeney is the chief investment officer for Marathon Asset Management Co, a registered investment advisor with the Securities and Exchange Commission, and for Mission Management & Trust Co., a full service trust company regulated by the Arizona Department of Financial Institutions. If you would like to explore the management of an investment portfolio of $1 million or more by either of the firms, you are invited to email your interest to Tom@missiontrust.com or call (520) 529-2900 to speak with one of the Portfolio Coordinators.