We continue to be struck by the remarkably low valuations of certain very carefully selected ultra-high quality stocks. Some of these stocks are selling at price/earnings multiples we have not seen for 15 years or more, without any real impairment of their long-term earnings growth prospects. Moreover, when considered in the context of the current level of interest rates -- not to mention the prospective level of same -- some of these securities are cheaper than they have been since the 1970s.
Does this mean that they cannot drop in coming days, weeks, or months? Of course not. The pendulum-type movement typical of equities will, normally, carry any individual stock from the extreme of over-valuation to the extreme of under-valuation. The question of what is the extreme, and the related question of whether the stock will move to NEW EXTREMES, are unanswerable. All we can reasonably infer is that long-term investors desirous of acquiring high quality securities at low valuations and willing to tolerate short-intermediate term volatility can find some mighty tempting bargains in today's market. We are assuming, of course, that our economy does not become Japan-like. Since the odds are, we judge, that this is unlikely, we remain very bullish on CAREFULLY SELECTED INDIVIDUAL EQUITIES.
As for "the market," our views are unchanged. There are essentially, as we have noted on several occasions, two markets. One market is that of companies comprising the consumer-dependent and consumer discretionary-sensitive sectors; the other encompasses recession-resistant businesses in healthcare, technology, and energy.
We expect a significant expansion of price/earnings multiples, and hence of the prices, of stocks whose earnings expand in 2008. Lower interest rates invariably produce such a result, although it can require much patience and an ability to tolerate sharp and sudden downdrafts.
Overall, equities remain very attractively priced relative to Treasury yields. Historically, this has produced, in due course, significant bullish action in the overall equity market. We are hardpressed to support the view that things will be different this time, barring a severe economic downturn.
It is becoming increasingly difficult for income-seeking investors to find adequate yields in Treasury securities. The collapse of the mortgage-backed market, and the panic in the non-Treasury debt markets are suggestive of one non-Treasury alternative: high-yielding, high quality individual equities. Great care is needed here, as the bear market in the erstwhile solid-yielding bank stock sector demonstrates. Still, as Treasury yields decline further, what is the growing army of demographically-determined income-seekers to do? In this context, high quality equities will become INCREASINGLY ATTRACTIVE. When a rally finally does commence, an influx of significant foreign capital can be expected. This money has its own agenda: to buy a piece of the safest investment locale on earth at bargain prices, enhanced by a depressed dollar and their own inflated currency values.
