How low can stocks go? Updated risks and values for February 6th
Bottom Line: In case you're new to this series, the purpose of this story is to inform you as to what's possible in a near worst-case outcome for the financial markets. The reason is to understand what's possible, though unlikely, so you can plan soundly for your financial future unemotionally. Too often when we have a rare short-term downturn in the markets - it's too late to offer up information that might have been helpful ahead of time. This week's edition of "how low can stocks go" goes as follows...re the Dow, S&P 500 & Nasdaq stand against their all-time high levels:
DOW: 8.5% off
S&P 500: 7.8% off
Nasdaq: 7.1% off
And now it's happening...What's that? The inevitable volatility that'd been absent from the market. In a separate story I've shared the great news from earnings season. Now on one hand you'll be inclined to think somethings wrong based on the quick severe market selloff in recent days. That's not the case at all. This is a healthy market correction taking place right now. Which means that yes - I think we'll see 10% declines for a formal correction. But here's the thing there's simply more value today with many investments as compared to this time last week. The fundamental story isn't just alive - it's actually still improving.
We have record earnings and tax reform. And here's the thing. The big thing. Stock prices haven't really been more expensive in early 2018 than they were a year ago at this time. How you ask? Because stock prices have only risen in conjunction with improved earnings performance.
Here's the 2018 year-to-date performance:
The Dow is –1.5%, the S&P 500 is -.9% & the Nasdaq is up .9%. We've had declines of 6.5% to 8.5% on average over the past week
As far as how low stocks could go...If only market fundamentals mattered here's what we'd want to consider with regard to the S&P 500 for example.
S&P 500 P\E: 24.74
S&P 500 avg. P\E: 15.69
The downside risk is 36% based on earnings multiples right now from current levels. That's 4% less risk compared with this time last year on a fundamental basis alone (and 5% less than last week). We're seeing earnings season once again deliver & with the recent selloff the fundamental story hasn't changed – valuations are just lower. We still don't have the impact of tax reform factored in. For the S&P 500 specifically, the average tax rate was about 26% last year. With tax reform cutting corporate rates to 21% - that's another 5% to the bottom line on average.
Now, as always, I don't expect that type of selloff to occur (36%) but it's always important to ensure that you're positioned for negative adversity. If a short-term decline at the aforementioned levels wouldn't affect your day-to-day life, you're likely well positioned to continue to take advantage of investment opportunities. If that size of selloff would rock your world over the short-term, that's when you should probably seek professional assistance in crafting your plan (that balances your short-term needs with long-term objectives).