Average stocks have plunged more than 25% just this month - and some analysts are coming out to tell you that stocks are becoming too cheap. But that's not a true and complete picture. Most stock valuations are determined based on P/E ratio. Saying that stocks are historically cheap is basically implicitly assuming that the earning power of companies will soon improve. However, given the current economic conditions, that does not sound like a very convincing assumption.
Corporate America became too greedy during its heyday and acquired companies which only remotely tie to its core business. That leverage has still not come out of the stocks. Remember that stock is merely a paper whose value lies in the perception of other people. Most companies did not issue equities because they wanted to make Jim or Tom rich. They wanted their money at 0% interest and zero liability. That's why we are not seeing many companies buying back their stocks while analysts are saying that they are cheap - because companies don't want to buy back and return your money. What does it tell us? That stocks are not too cheap.
A company like HP (HPQ) acquired EDS for one reason: to boost their stock price. If a company acquires another company and the first announcement they make is a headcount reduction, that's the alarming signal right there. That shows that company did not acquire the other company because it fits very well into its business model or that the acquired company will add value in its existing form.
Another reason why I don't think stocks are cheap or have bottomed as of yet is because swings in the market have not stabilized. Volatility has hit the almost 80 level at least 4 times in the past week. Unless the amount of stock market swings comes down, the market will be dominated by casino betters rather than value investors. So my suggestion is to wait for the volatility to go down, and then to start investing in value companies.
Disclosure: none
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This article has 1 comment:
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pelican
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38 Comments
Oct 26 10:15 AM