For those who follow my rants, you’ll recall (okay, you probably won’t recall) my proprietary method of estimating where the S&P 500 Index should be headed.  If you scan very old posts of mine, you’ll notice that this has served me remarkably well.  It also served me well doing my job while managing portfolios and making asset allocation decisions.

You can do this on the back of an envelope and it is based on the most simple of time value of money concepts.  Consider the earnings from a stock, or an index as a perpetuity (meaning no growth) which seem unrealistic in the long term, but very frequently investor expectations become confused and its as good a forecast as any if only for brief periods.  The P/E ratio of the stock or index provides us with what I consider to be the best number to use for trailing earnings.

S&P500 Earnings 2019

The current P/E ratio (see difficult to read table) according to the WSJ is seems to be  about 20X trailing estimated earnings of 161.53 using Ed Yardeni’s numbers (see chart), given the level of the index at today’s close is 3248.92. This valuation seems reasonable enough, BUT what if next year’s earnings are actually 10% lower due to Coronavirus and and subsequent fallout – or something around $145?  This would put the P/E at a slightly higher 22X  earnings. Assuming investor sentiment is miserable soon, then expecting this earnings to not grow at all, and discounted in perpetuity (I never said my approach to this was rational – only that it works) at 5% would mean an S&P 500 target (for me anyway) of 2900.

S&P 500 Feb 3 2020

In summary, I expect the market to correct at least 10% to 11% and it seems to be on its way.

The only risk to an even worse scenario is a wholesale disposition of the tech darlings (which account for a big weight of the market’s capitalization), or interest rate hikes.  The former is a possibility (high beta babies) but the latter would seem unlikely with the global economy suffering from a variety of supply chain, consumer and production bottlenecks already becoming evident.

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About the Author

Malvin Spooner is a veteran money manager, former CEO of award-winning investment fund management boutique he founded. He authored A Maverick Investor's Guidebook which blends his experience touring across the heartland in the United States with valuable investing tips and stories. He has been quoted and published for many years in business journals, newspapers and has been featured on many television programs over his career. An avid motorcycle enthusiast, and known across Canada as a part-time musician performing rock ‘n’ roll for charity, Mal is known for his candour and non-traditional (‘maverick’) thinking when discussing financial markets. His previous book published by Insomniac Press — Resources Rock: How to Invest in the Next Global Boom in Natural Resources which he authored with Pamela Clark — predicted the resources boom back in early 2004.

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