Market Update – 31 Aug 2010
The Stock Market has Been in a Sideways Trend
After rally strongly for 14 months after markets hit the bottom of the financial crisis (March 2009), both the US Markets (Dow, D&P 500) and Singapore Market (STI) have been going sideways over the last 4 months.
A hopeful rally that had the S&P 500 up as much as 9.4% for the year came to an abrupt halt in late April 2010 as a sovereign debt crisis in Europe, efforts to slow the Chinese economy, and the arrival of some disappointing economic data in the U.S. triggered the first 10% pullback by the S&P 500 since it started its recovery rally in March 2009. The net result is that the S&P 500 ended the first half of 2010 down 7.6% for the year so far. On the other hand, the STI is up a small 3% of the first 8 months of the year.
The Stock Market is Attractively Valued…But…
As a whole, the US Market and Singapore market are very attractively valued. PE ratios of the index are below the historical mean of 15. Shanghai’s PE of 18 is also considered fair value given its higher expected growth rate. The only Asian country that is overvalued is Jakarta that carries a PE of 31.
- S&P 500 PE ratio is 13
- STI PE Ratio is 11.8
- Shanghai composite PE is 18
- Jakarta Composite Index is 31
Corporate balance sheets are also in good shape. S&P 500 companies have nearly $1.2 trillion in cash and short-term investments that allows for plenty of flexibility to enhance shareholder value. The cash build-up, though, is still regarded more as defensive positioning in the event of another downturn than it is as an offensive-mined growth weapon.
Why US Market May Move Sideways for Quite a While
While markets are slightly undervalued based on PE, the US market indexes like the Dow and S&P 500 may well continue to move sideways for a while. There is uncertainty about how the sovereign debt problems in Europe will ultimately be resolved. There is uncertainty about how much China’s economy will slow. There is uncertainty about both the labor market and the housing market in the U.S., both of which are intricately linked. There is uncertainty about the political and regulatory environment. There is uncertainty about the proper policy course for getting huge budget deficits under control. There is uncertainty right now about whether inflation or deflation is the bigger issue for the market. All this uncertainty is preventing markets to rally further. It will also take a while for the US economy to truly recover and return to a hope-filled state of rising standards of living, full employment, higher home values.
According to Conrad’s research on historical market trends, the Dow Jones Index has been known to go sideways for as long as 20 years after a brief recovery from a downturn, before resuming its long term uptrend. Does this mean that if the Dow Jones index goes sideways for the next 20 years, we cannot make a high return on our portfolio? Absolutely not!
For example, for the last 10 years (2000-2010), the Dow Jones index actually went almost sideways. If you had bought the Dow Jones index ETF in Year 2000 and held it till 2010, you would have just broken even. One reason is that the Dow was trading at a PE of 45 in 2000 (highly overvalued) and so, it has obviously no where to go but down for the next 10 years. Today the Dow is trading at a PE of 13 times, which leaves it a lot more upside potential.
However, EVEN IF the Dow goes sideways for another 10 years, can you still make lots of money? Absolutely! Remember that the Dow Jones is made up of the 30 largest Mega Cap stocks in the US. In the years that the MEGA CAPS went sideways, Mid Cap stocks actually showed double digit returns. For example, from 2000-2010 (when the Dow went sideways), the S&P 400 MIDCAP index returned a staggering 81%!!! This is because mid cap stocks (medium size companies) have much more room to expand that mega cap stocks that make up the Dow or large cap stocks that makeup the S&P 500. So instead of buying the Dow Jones ETF or the S&P 500 ETF, you can buy the S&P 400 Midcap Index ETF. The ticker symbol for this is ‘MDY’
At the same time, if you has bought UNDERVALUED stocks of good MEGA CAP companies (that met the 9 steps of value investing) in 2000, you would also have gotten a huge return. For example, if you bought McDonalds (MCD) in 2000, at a time when it was undervalued, you would have made a 365% return!!!
Also, while the US index may go sideways for the next 10 years, strong and robust Asian countries (especially Singapore, China) will likely continue to move upwards. From 2000-2010, even a stable, defensive stock like SMRT went up 338%!!!
What is All Means
Some people are saying that the US markets may go sideways for the next 10 years. The point is that even if the case may be, there is still huge profits to be made if you invest in 1) the S&P Midcap ETF, 2) Individual stocks that are undervalued and who are going to benefit from the Asian growth story, 3) Asian indexes like Singapore and China.















