There is one thing to be said for the equity market plunge of December: if you are a buyer of stocks, it seems like you are getting more for your money now.
US stocks entered 2019 with valuations beneath some historical averages, according to one commonly watched metric: price to forward earnings. The significant cheapening of stocks will fuel the debate over whether late-2018 selling presents a buying opportunity or is a harbinger of what is to come in 2019.
The S&P 500 (.SPX) is trading at 14.2 times forward earnings, well below the high of 17 times in January of 2018. That is beneath the average since 1990 of 14.9 times.
It is also cheaper than the average of 15.7 times for the past five years, Bloomberg data show. The 10-year average was just under 14 times.
Some investors said the deep selling on Wall Street in the fourth quarter of 2018 was overdone, given current forecasts for economic and earnings growth alongside still low inflation and interest rates.
But others cautioned that if an economic downturn does come, the earnings forecasts might turn out to be too optimistic, making the apparently low price-to-earnings ratio a mirage.
One catalyst could be the reporting season for fourth-quarter earnings, which gets under way in mid-January, when executives outline their outlooks for the year.
FactSet data showed a slowdown in year-on-year earnings growth to about 8 per cent for companies in the S&P 500 in 2019, compared with more than 20 per cent for 2018, which got a big helping hand from tax cuts.
“The 2019 [earnings] numbers still have to come down,” said Nicholas Colas, co-founder of DataTrek. “You will see that when companies report fourth quarter and give their guidance for 2019.”
In any case, valuations can take a back seat at a time when emotions are a driving force for markets.
“This is a very sentiment-driven market regardless of where we are on a relative valuation basis,” said Max Gokhman, head of asset allocation at Pacific Life Fund Advisors, adding that developments on the US-China trade war and expectations for interest rate increases from the Federal Reserve will dictate the direction of US stocks in the near-term.
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