How low can stocks go? Updated risks and values – January 21st

How low can stocks go? Updated risks and values – January 21st

Bottom Line: 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. The US stock market is the greatest wealth creation machine in the history of the world. I want you to benefit from it without making emotional mistakes with money.                  

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 the Dow, S&P 500 & Nasdaq stand against their all-time high levels:                           

  • DOW: Record high
  • S&P 500: Record high
  • Nasdaq: Record high

I still don’t know any investors who are tired of winning. And the winning streak is certainty stretching its legs to begin the new decade. 2019 was nothing short of amazing with average gains between 22% to 35% once again demonstrating the power of the US economy and American free enterprise when given an opportunity by the government to thrive. That’s extending well into the new year with new highs being reached yesterday, the phase 1 China deal being signed and the USMCA passing Congress. There’s simply great economic news just about anywhere you look and it’s reflecting in stock prices. What’s more is the strong start to earnings season. 72% of companies have reported higher than expected earnings thus far. 

Year to date...

  • The Dow is up 3%, the S&P 500 is up 3% & the Nasdaq is up 5%        

As far as how low stocks could go...? If only market fundamentals mattered here's what we'd want to consider regarding the S&P 500 for example.                           

  • S&P 500 P\E: 25.04
  • S&P 500 avg. P\E: 15.78

The downside risk is 37% based on earnings multiples right now from current levels. That's 4% more risk compared with this time last year. This marks the second week in over a year that the stock market’s fundamentals haven’t improved faster than stock prices. In other words, the stock market is slightly more expensive today than a year ago. The hope is that earnings season will bring growth to provide greater value than is currently priced into stocks based on the trailing 12 months earnings. It’s safe to say stocks aren’t cheap any longer and earnings season will need to deliver or there’s downside risk at current levels. 

I don't expect a 37% selloff but it's always important to ensure that you're positioned for negative adversity. If a short-term decline at those levels wouldn't affect your day-to-day life, you're likely well positioned. If not, you should probably seek professional assistance in crafting your plan that balances your short-term needs with long term objectives.

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