{"id":213607,"date":"2020-06-23T13:47:32","date_gmt":"2020-06-23T13:47:32","guid":{"rendered":"https:\/\/aptuscapital.wpengine.com\/?p=213607"},"modified":"2023-04-24T15:41:52","modified_gmt":"2023-04-24T15:41:52","slug":"cheap-or-expensive","status":"publish","type":"post","link":"https:\/\/aptuscapitaladvisors.com\/cheap-or-expensive\/","title":{"rendered":"Cheap or Expensive ????\u200d"},"content":{"rendered":"

\u201cI can\u2019t make sense of this market\u201d \u2013 we\u2019ve heard that a few times during this market rip higher.\u00a0 For any readers who have no clue what to think, hopefully this will help.<\/p>\n

Side Note – We don\u2019t have a dog in this fight.\u00a0 We could make a compelling case either way.\u00a0 Winning arguments is not our objective though.\u00a0 Positioning portfolios is.\u00a0 We love our positioning currently. This note is less about that and more for informational purposes.\u00a0 If you want portfolio specifics, don\u2019t hesitate to reach out. <\/em><\/p>\n

To recap 2020 \u2013 and yes, this will be a simplified recap, but should serve its purpose:<\/p>\n

It started off calm.\u00a0 Then Covid-19 happened, and calm was replaced with chaos.\u00a0 Markets dropped\u2026a lot.\u00a0 Unemployment rose quickly.\u00a0 The economy halted. Bond markets froze.\u00a0 Then\u2026<\/p>\n

The Fed\/Congress pressed <Up, Up, Down, Up, Down, Left, Right, Left, Right, A, B, A, B, Select, Start> for unlimited cash, dusted off some facilities with a lot of letters in their name, and even created a few more, sent out checks, a lot of them, and pledged to do whatever it takes.<\/p>\n

Then markets started rising \u2026 a lot.\u00a0 This, now 40+% recovery from the lows in March, has occurred despite an ongoing pandemic, unemployment numbers that have never been seen, and riots across the country, just to name a few things currently happening that sure don\u2019t seem bullish.<\/p>\n

Economic activity fell off a cliff.\u00a0 Money printing went nuts.\u00a0 Look at his chart where the white line is economic activity and the red line is assets of all the Federal Reserve Banks ????:<\/p>\n

\"\"<\/p>\n

The economic\/political backdrop seem to mix with current market prices like oil and water.\u00a0 Does this rise make sense?\u00a0 Is it here to stay?\u00a0 Are we off to new highs?<\/p>\n

We can give bullish or bearish answers to those questions.\u00a0 You can pick your side, but we\u2019d be careful how you act on opinions in your portfolio.\u00a0 Risk can pop up and slap you in the face, but a Fed-fueled market can sure make cash look silly.<\/p>\n

Bearish \u2013 The Stock Market is Expensive<\/strong><\/h4>\n

Quick Refresher: When we talk about valuations, we are referring to a multiple. \u00a0Most investors are familiar with the P\/E ratio. For example, if a stock trades at $50 and has earnings of $5 a share, it trades at a 10x Price to Earnings multiple.<\/p>\n

Valuations are an indicator of future returns moving forward.\u00a0 High valuations lead to lower returns with higher risk and vice versa.\u00a0 This is important, think about this when looking at these numbers below\u2026<\/p>\n

According to Raymond James, the S&P 500 Index finished May trading at roughly 24x the estimated earnings per share of the market overall.\u00a0 That multiple is near historic highs.\u00a0 The S&P 500\u2019s 2020 earnings per share consensus of $126 a share is down 22% from 2019 which represents a typical recession.\u00a0 Even worse, the Russell 2000 (an index of smaller companies compared to the S&P 500) consensus EPS for 2020 has stabilized at $55, down 60% from 2019.<\/p>\n

Earnings have come down dramatically due to Covid-19 and valuations have increased to near historic highs.\u00a0 With unemployment near 15% and uncertainty everywhere, are valuations justified to near historic highs?<\/p>\n

Returns can only come from one of three places: Yield, growth, and valuations changing.\u00a0 If you own a stock, you can make money from the dividend it pays you, the growth of earnings, or people paying a higher multiple (positive valuation change).<\/p>\n

Debbie downer reminder, valuation change is not always positive.\u00a0 When investors demand higher returns on investments for the risk assumed, valuations drop creating negative returns.<\/p>\n

The Bear’s Take<\/em><\/strong><\/p>\n

Given the uncertainty and current level of valuations, a reset in the downward direction seems reasonable and the current market run up does not.\u00a0 This market is expensive \u2013 beware of what is to come!<\/em><\/p>\n

Bullish \u2013 The Stock Market is Cheap<\/strong><\/h4>\n

This recent market rise is more than justified\u2026and hold on, we are just getting started.<\/p>\n

We\u2019re not worried about comparing the market\u2019s valuations relative to historic numbers, that doesn\u2019t matter.\u00a0 What matters is the opportunity set investors have.\u00a0 In a nutshell, that opportunity consists of stocks or bonds.\u00a0 And what matters is the relative attractiveness of those to one another.\u00a0 Stocks have almost never looked more attractive; this market is cheap.<\/p>\n

Here are two snips from Gina Martin Adams at Bloomberg illustrating this point. She refers to the equity risk premium.\u00a0 This is simply the earnings yield (think Price to Earnings discussed above flipped upside down) of the stock market relative to the yield on bonds.\u00a0 She compares the earnings yield to Treasury and corporate bond yields.<\/p>\n

First comparing stocks to treasury bonds:<\/p>\n

\"\"Then comparing stocks to corporate bonds:<\/p>\n

\"\"<\/p>\n

In other words \u2013 do you want to own a stock that pays 2% in dividend yield with potential for growth in earnings and positive valuation change.\u00a0 Or do you want to own a bond that pays 1% in interest that cannot grow, and trades at valuations almost never seen before?<\/p>\n

The question is not even what do you want to own, but what can you afford to own?\u00a0 Investors have no other place to go if they want return. Buy Stonks.<\/p>\n

One further bullish argument simply considers what a stock fundamentally is and how it is priced.<\/p>\n

A stock is nothing more than a claim on future cash flows.\u00a0 Those cash flows extend far out in time.\u00a0 The value of a stock today is each of those future cash flows discounted.\u00a0 The rate in which you discount those cash flows impacts the outcome of the calculation. \u00a0\u00a0High rates (your denominator) low valuations.\u00a0 Low rates, high valuations.<\/p>\n

The interest rate environment we are in globally is unlike any we have seen.\u00a0 Rates are negative in some places and near historic lows here in the US.\u00a0 Point being, claims on future cash flows (stocks) value is determined by the discount rate.\u00a0 A low discount rate creates higher valuations.\u00a0 You could make the case that today\u2019s market should trade at elevated valuations vs historic simply because of this.<\/p>\n

The Bull’s Take<\/strong><\/em><\/p>\n

High valuations don\u2019t scare me.\u00a0 Relative to the other options, stocks are still cheap.\u00a0 With rates near lows, fed support, and an economy that is itching to get back in gear \u2013 I\u2019m long and strong stocks!<\/em><\/p>\n

So What’s the Answer?<\/strong><\/h4>\n

Cheap or Expensive?\u00a0 The simple arguments for either side should help support your narrative either way.<\/p>\n

From our seat, we\u2019re hopeful for higher prices, but prepared if that\u2019s not the case.\u00a0 The biggest issues facing portfolio construction are the structural issues in bonds (there is just no potential for returns), the uncertainty in stock valuations (economic, political, pandemic impact, etc), and the risk of holding cash.<\/p>\n

We\u2019re building strategies and portfolios to manage these issues.\u00a0 When it comes to cheap or expensive, we don\u2019t have the answers, but we are glad we have the tools we do to balance risk and reward.<\/p>\n

 <\/p>\n

 <\/p>\n

Disclosures:<\/em><\/p>\n

Past performance is not indicative of future results. This material is not financial advice or an offer to sell any product. The information contained herein should not be considered a recommendation to purchase or sell any particular security. Forward looking statements cannot be guaranteed.<\/em><\/p>\n

This commentary offers generalized research, not personalized investment advice. It is for informational purposes only and does not constitute a complete description of our investment services or performance. Nothing in this commentary should be interpreted to state or imply that past results are an indication of future investment returns. All investments involve risk and unless otherwise stated, are not guaranteed. Be sure to consult with an investment and tax professional before implementing any investment strategy. Investing involves risk. Principal loss is possible.<\/em><\/p>\n

Advisory services offered through Aptus Capital Advisors, LLC, a Registered Investment Advisor (RIA) registered with the Securities and Exchange Commission and headquartered in Fairhope, Alabama. Registration does not imply a certain level of skill or training. More information about the advisor, and\u00a0 its investment strategies and objectives, is included in the firm\u2019s Form ADV, which can be obtained, at no charge, by calling (251) 517\u20107198. ACA-20-145.<\/em><\/p>\n","protected":false},"excerpt":{"rendered":"

\u201cI can\u2019t make sense of this market\u201d \u2013 we\u2019ve heard that a few times during this market rip higher.\u00a0 For any readers who have no clue what to think, hopefully this will help. Side Note – We don\u2019t have a dog in this fight.\u00a0 We could make a compelling case either way.\u00a0 Winning arguments is […]<\/p>\n","protected":false},"author":8,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"_et_pb_use_builder":"","_et_pb_old_content":"","_et_gb_content_width":"","content-type":"","inline_featured_image":false,"footnotes":""},"categories":[20],"tags":[],"class_list":["post-213607","post","type-post","status-publish","format-standard","hentry","category-blog"],"yoast_head":"\nCheap or Expensive ????\u200d - Aptus Capital Advisors<\/title>\n<meta name=\"robots\" content=\"index, follow, max-snippet:-1, max-image-preview:large, max-video-preview:-1\" \/>\n<link rel=\"canonical\" href=\"https:\/\/aptuscapitaladvisors.com\/cheap-or-expensive\/\" \/>\n<meta property=\"og:locale\" content=\"en_US\" \/>\n<meta property=\"og:type\" content=\"article\" \/>\n<meta property=\"og:title\" content=\"Cheap or Expensive ????\u200d - Aptus Capital Advisors\" \/>\n<meta property=\"og:description\" content=\"\u201cI can\u2019t make sense of this market\u201d \u2013 we\u2019ve heard that a few times during this market rip higher.\u00a0 For any readers who have no clue what to think, hopefully this will help. 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