So let me tell you about The Good with all the bad and the ugly already out there:
Valuation: when stocks fall, they (usually) do get cheaper.
Historically speaking, forward PEs above 20 are expensive. I always prefer to flip the PE (Price divided by Earnings) on its head, into Earnings Yield (Earnings / price). This puts a 20PE at 1/20 = 5% earnings yield at a time when the 10 year gov bond was traded at 2%. This means you're getting 5% - 2% = 3% to take on market risk.
That was 1 month ago. How about today?
Today, the market is about 14.5 PE, and flipping that on its head, implies about a 7% earnings yield when the 10 year bond trades sub 1%. This means you're now getting 7% - 1% = 6% to take on market risk. The market is now affording you twice the amount of return for taking on market risk. I'll let you decide if the market risk was higher a month ago (with stocks standing 33% higher - with that much more height to fall; versus today, at a far lower price)
For context, at a 13 PE, I would start to consider to be getting pretty cheap. This implies (on a reduced $165 forward earnings) that the S&P would be cheap at 13x$165 = 2145, or about 10% lower from here. Hey, thats just merely one more day like today;)
What is my point? Right now, the market has fallen about 30% from its highs. Ask yourself, in 1-2 years, will the economy (and earnings) be 30% LESS than what it was 1 month ago at the highs?
If you answered 'No', then you cant continue to be more and more bearish as the market falls. Even if the PE stays at 14.5, and earnings make there way back up to more recent estimates of $177, then we are taking about the S&P at (14.5 x $177 = 2566) in a year or so. From todays S&P close of 2386, thats a 7.5% return. If the market falls another 10% in panic first, then its more like a 17.5% return!
My point has little to do with the math above, and everything to do with accepting that as prices fall, sometimes... stocks do indeed get cheaper.
Don't get too bearish.
Peaking Italian infection: Could it be?
At some point it's going to happen if theres no mobility within the country. Italy has been in lockdown for over a week, which has now passed the average incubation period for symptoms to show. Mathematically, new cases should start to slow... just about now....
My theory is that society and governments would continue to ramp responses to Covid-19 until it is contained. Going into lockdown is pretty much what the Chinese did in Wuhan, so I would expect a total freeze of the Italian population to have a similar chilling effect on the virus.
If I squint, maybe I can maybe see a deceleration just beginning to show....
I'm not entirely sure how accurate and up to date this data is, but judge for yourself below. Is it maybe peaking?
And try comparing the above with South Korea's daily new cases which have long since peaked.
Could Italy be near peak new daily cases? Perhaps Italy somewhere equivalent to March 1 in South Korea. If Italy can make it through the valley, than surely we will be able to as well. And if the market can see through the valley - that's very bullish indeed.
So it's not only the Bad and Ugly out there.
Don't get too bearish.
Risk Manager Jeff
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