My partner Barry went over our basic market views in a new interview with Wally Forbes the other day which has just been published at Forbes.
Here’s a bit on how we think about potential scenarios for equities:
Here’s the thing I think most people have a hard time understanding and putting into context. To say stocks are cheap or expensive today is to simultaneously discuss two different things. The first is future earnings power. So the real question when you’re evaluating, “Are stocks cheap or expensive,” is how much can earnings continue to grow? What so many people get wrong about this is that step one is to acknowledge the inherent uncertainty about the future – that you don’t truly know what is going to happen to earnings in 2014 or 2015. There are many likely scenarios, but we focus on two of them: Either the economy tips into a recession (as so many people have been claiming for many years now). When we war game different scenarios, we think that is the most likely negative one. Not the most likely outcome, but if we do get a negative outcome, that is the most likely one. If that happens, we’d expect to see earnings contract 20% to 30%. If that were to happen, the equity markets would also go down by that much.
What about the upside? The economic recovery has been woefully slow and arduous — like watching frozen molasses run uphill. But directionally, it’s been heading in the right way over time, and on a regular basis. So if this slow and painful recovery continues, we’re very likely to see earnings maintained at somewhere near the current level or better. Let’s call it $110 – $120 in profits on the S&P. Call this the more of the same scenario.