Epiphany Investing

Searching Out the Optimal Portfolio of “Revelation” Stocks

Barron’s Notes Disparity Between Individual Company, SPX Estimates

Posted on | November 2, 2008 Time: 8:56 pm |

There was an interesting article in Barron’s discussing the disparity between the consensus estimates for individual companies in the S&P 500, and the aggregate SPX earnings measure that has been assigned by global and U.S. strategists at the major institutions. Sounds a bit confusing, doesn’t it?

Well, it could have been presented better in the article too (I took an early stab at this problem last Monday), but the gist is that if you look at each of the 500 stocks in the S&P 500 individually, then added up the earnings estimates for each company for 2009, you’d end up with a little over $90. Take the S&P 500’s closing price of 968 and change from Friday, and you have a P/E of under 10, which by all accounts screams good value.

But the $90 figure is most certainly too high, it’s just a question of how much. The global and U.S. equity strategists come at their S&P 500 estimates from the top-down, focusing on macro data and maybe sector-level catalysts, but not much deeper than that. A recent Barron’s survey of five of these strategists is predicting only $72. 67 in earnings for 2008, and $70.52 in 2009. That would put a multiple of 13.7 forward earnings on the S&P 500; still admirable and below most measures of long-term averages.

A quick sidebar: a lot of folks are arguing about this topic right now, as to what the average P/E of the market is, how much on trough, forward vs. trailing, etc…My assessment of many sources over the years leads me to center on about 14-15x current, run-rate earnings as a good historical average. If the market can be assured that we’re on trough earnings, then the multiple can be expected to rise higher than this average. If the market fears further earnings deterioration, it can go lower.

The $9 Trillion Question

So if you’ve followed me along so far, you and I both arrive at the same question…where are we now? Are we at a known trough, or more importantly can we agree on a trough in 2009? Can we agree on a roughly 20% drop in S&P 500 earnings from peak to trough, which is what the $70 level from the 5 strategists suggests?

I honestly don’t know. I feel like I could put a number out there that I was comfortable with, if it wasn’t for the damned financial sector, which has seen so many tens of billions in write-downs already. How much more can we expect, especially with the type of tax changes put into effect which will keep Wells Fargo from paying any income taxes for the next 10 years? I’m expecting further consolidation, which will mean more accelerated (read: honest) write-downs of financial assets. This trend alone, while mostly cosmetic and focused on just one sector, could throw off S&P 500 earnings massively in 2009, to the tune of $5-7 without breaking a sweat.

Can the market discount that and move upwards anyway? Will financial sector issues continue to plague other sectors in 2009? Barring another systemic collapse (tail risks do remain in the market) I think there should be a lot of money sloshing around in 2009 as the $1.5 trillion (and rising) Fed backstop money makes its way into the credit markets.

Parting Thoughts

Nobody has a lot of faith in estimates for 2009, including the folks creating them. There’s just too many variables with a high standard deviation of potential values. The above situation with financials is just one example, but we also have to consider the wildly fluctuating currency markets, the weakness of other global economies, a new administration on the way, and the quite simple fact that we have yet to see a peak in either unemployment, home foreclosures, and home price declines.

With the macro environment so difficult to even keep tabs on - let alone truly analyze - I think the best way to assess this environment for the time being is to read the pulse of individual companies and managers. The economy is in a street fight, and right now I’d rather get my news from guy on the sidewalk than the team watching from up in the blimp.

Ryan Barnes

disclosure: author does not hold positions in the companies mentioned.

More on this topic (What's this?)
FABER: S&P COULD DECLINE 20% FROM HERE (THE PRAGMATIC CAPITALIST, 1/27/10)
Glenn Neely: Multi-month decline (All Allan, 1/22/10)
Emini S&P: Another Setup For A Rebound (Short-Term Trading, 1/30/10)
Read more on S&P 500 (SPX) at Wikinvest
  • Share/Bookmark
Category: Broad Markets, Economic Indicators, Financials, Fundamental Analysis, Sector Study
Tags: > > > > >

Comments