Market Reality?
Research for Online Investors

by John Dalt

5/26/09

What a difference three days can make, the world has changed.  North Korea inserted themselves in investors’s portfolio over the weekend.  What happens to oil, gold, base metals and other commodities with world tensions increasing?

GM offered bondholders 10% of the new companies stock in exchange for their $27 billion in debt. Late today less than 10% of the bondholders had agreed to the deal, pushing GM closer to bankruptcy.

The popular Case-Shiller Home Price Index showed home prices dropped 18.7% in March. Their explanation for the drop is the increase in foreclosures has increased the number of homes sold at distressed prices. The New York Times puts the best face on the tough home price story.

Today's chart illustrates how this plunge in earnings has impacted the current valuation of the stock market as measured by the price to earnings ratio (PE ratio). Generally speaking, when the PE ratio is high, stocks are considered too expensive. When the PE ratio is low, stocks are considered inexpensive. From 1936 into the late 1980s, the PE ratio tended to peak in the low 20s (red line) and trough somewhere around seven (green line). The price investors were willing to pay for a dollar of earnings increased during the dot-com boom (late 1990s) and the dot-com bust (early 2000s). As a result of the current plunge in earnings and the recent 2.5 month stock market rally, the PE ratio has spiked to the low 120s – a record high.

Overseas and the premarket were down this morning, painting an ominous picture for the week.  Consumer confidence saved the day, shortly after market open, we learned the consumer believes all is rosy everything is great.  Somebody must have drunk too much beer at the lake over the weekend.  Consumer confidence rose in May to its highest level in eight months.  The New York Times has a timely article on consumer optimism.  Today’s market is ignoring bad news, which would portend more highs; we shall see what the week holds for us.  Be careful, when others are rushing in, it may be the time to quietly move to the exits.  The chart above should cause concern.

The information presented in this newsletter is based on generally available news releases, corporate filings, current events, interviews and the editor’s opinions.  It may contain errors and you should not make investment decisions based solely on what you believe you have read here.  Do your own research, it is your money.  If you lose it, it is your responsibility, not ours or your grandmothers!  The editor may or may not have a position in any securities discussed.  The editor may have held a position in a security earlier, or in the future

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