We’re almost home. Earlier this month, I projected that the S&P 500 stock index would climb to new highs, “possibly 1900 or a bit higher, by late April.” Thursday’s close at 1877 puts our goal well within striking distance despite today’s early setback.
So let’s assume we get there, probably sooner rather than later. What then?
Nothing’s to say the market can’t go even higher. Earnings momentum has picked up sharply in the past few quarters, with Q4 operating net per share for the S&P 500 companies now estimated to have grown 21% from the year-ago period.
Some of that improvement is overstated, since it includes a huge swing in AT&T’s (T) pension accounting—from a $10 billion pretax charge in the last quarter of 2012 to a $7.6 billion gain in the most recent interim. Still, most big-name companies are faring reasonably well in the current economy. As long as Putin keeps smiling for the cameras, corporate earnings here in the USA give the bulls a powerful excuse to push the edge of the envelope a little further.
On the other hand, the envelope has already been stretched to pretty near the size of a billboard. In a speech Wednesday in Mexico City, Richard W. Fisher, the distinguished president of the Federal Reserve Bank of Dallas, repeated many of the valuation concerns I’ve brought to your attention in past blogs.
“Stock market metrics,” Fisher noted, “such as price to projected forward earnings, price-to-sales ratios and market capitalization as a percentage of GDP are at eye-popping levels not seen since the dot-com boom of the late 1990s.” Margin debt, he added, “is pushing up against all-time records.”
Fisher is far more astute than your typical Fed bureaucrat. Besides first-rate academic credentials, his resume includes extensive business experience as a Wall Street banker and an extremely successful money manager.
When somebody of his stature—who has nothing to gain, personally or politically, by speaking out—says, in effect, that the market is overvalued, why begorrah, it is!
How do we incorporate this sobering reality into our strategy? There’s no need to sell everything and run for the hills. If you were to do that, how would you know when to buy back?
Rather, I encourage you to approach the market with a heightened awareness of risk. Keep your overall stock exposure to a reasonable percentage of your portfolio (our model is at 59%). Get rid of stocks and funds that might cause you acute pain in a downturn. Buy on pullbacks to lessen the odds of overpaying.
At the moment, our buy list is understandably rather short. However, I see a good opportunity to snare a double-digit return in the year ahead with this stock to buy: Baxter International (BAX). As a supplier of blood products and dialysis equipment and supplies, BAX fulfills a need that will endure in almost any economic climate.
What’s more, the stock is surprisingly cheap for today’s market. BAX is trading at only 13X estimated 2014 earnings, roughly a 40% discount to its P/E at the peak of the last bull market in 2007. In fact, BAX is quoted at only a slightly higher forward P/E than the shares commanded at the historic market low in March 2009!
Your downside appears to be quite limited with this blue chip. Current yield: 2.9%.