Are Stocks Still Too Expensive?

The news of the day is often what drives stock prices up and down in the short term. In the long term, earnings and other fundamentals determine what people will pay for a stock. We have reminded our readers that the stock market crash of 1929 that ushered in the Great Depression actually continued until the middle of 1932. Part of this was because of an ill-advised trade war with Europe. Mostly it had to do with sucking out all of the excess pricing in the market. In this regard we should ask, are stocks too expensive or are we getting to fair value based on forward-looking earnings?

Changes in Investor Sentiment

Remember the pizza review guy who gave investing advice. He told his gullible followers that stocks always go up. If you narrowed your time frame to when the Fed intervened and poured money into the market after the Covid crash this “analysis” would be correct. Within the span of any bull market, positive investor sentiment sends stocks higher and higher. But eventually, investor sentiment always changes. This time around the highest inflation in forty years, higher interest rates as the Fed changes monetary policy. Gas, oil, strategic mineral, and food shortages combined with higher prices and the prospect of all this getting worse before it gets better are scaring the market. Russia’s war in Ukraine is now expected to drag on for months or years with all of its negative effects on the world economy and markets.

Dangerous Derivatives

There are many times when economic shocks come from unexpected directions. One problem in the wings that could be hugely disruptive is that we have been a bull market for bonds for more than 30 years. Many institutions have profited by writing derivatives on bonds and stand to get hurt when rates keep going up. One of the risks is that investors whose bond derivatives are going badly may take on more risk in the stock market and cause more disruption there (on top of all of the other problems).

Dangerous Divides

Issues in American society have the potential to disrupt the economy and the markets. America is divided between Red and Blue, rich and poor, rural and city, and it goes on and on. Issues that have been allowed to fester and worsen over the years can become increasingly disruptive. When their economic consequences come to bear on the markets this is one more factor in sucking out excess value from the stock market.

Techie Catnip Crypto Risk

In an interview in Market Watch they referred to cryptocurrencies as catnip for techies. The idea that so much energy is expended solving math problems that do not require solutions seems crazy. One might think that crypto and stock markets are not connected but they are through investors. Like with folks who find them on the wrong side of bond derivatives, folks on the wrong side of the Bitcoin plunge likely have other investments. When they get in trouble in crypto there will be folks who are forced to sell to get out of risky positions in the stock market as well.

Perspective of History

The USA made it through the Civil War, World War I, Great Depression, and World War II. We would like to think that the country and its markets will survive whatever happens to the markets in this new era. Back in the 1960s a reporter asked retired general James Gavin about a national defense issue under debate. He said that the things most important to American security and prosperity were the strength of our political system, our strong educational system, and our devotion to continued research and development of new technologies and applications. For the very long term this is likely where investors should be looking for clues about successful investments. This approach is also why we at Top Gun Options pay attention to the factors included in our DRINC acronym (Democrats, Russia, Iran, North Korea, China). To be able to profit no matter which way the market is headed join one of the trading squadrons at Top Gun Options where we potentially print money no matter which directions prices are headed.