How low can stocks go? Updated risks and values – April 7th

How low can stocks go? Updated risks and values – April 7th

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: 23% off record high
  • S&P 500: 22% off record high
  • Nasdaq: 20% off record high

Stocks were up about 1% across the board over the past week. Of course, the getting there was the most interesting part. We had another feverish rally putting up another top five points day in DOW & S&P 500 history. This is the real test of my first rule of money. Never let your money and emotions cross paths. What’s going on here is the perceived light at the end of the coronavirus tunnel. Yesterday’s rally was born of the belief that we’re seeing the drastic measures in the US begin to work with perceived peaks in cases in certain breakout hot spots. It’s early to know with certainty but investors looking for a place to put money were willing to buy the possibility. Still, April brings earnings season with it and I wouldn’t count out a retesting of the lows once the extent of the damage to American businesses is disclosed. Not to mention the most important info of all in the bigger picture... When and where does this story end? None of us know and that’s most problematic of all. It’s a lock that we’re in the early stages of a recession right now and we need to be braced for a brutal second quarter but then what? 

Year to date...

  • The Dow is down 21%, the S&P 500 down 18% & the Nasdaq is down 12%

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: 20.04
  • S&P 500 avg. P\E: 15.78

The downside risk is 21% based on earnings multiples right now from current levels. That's 11% less risk compared with this time last year however fundamentals on trailing earnings will deteriorate. The market is priced as though earnings will only drop by about 11% this year. That might be a bit optimistic. We’ve been close to the fourth “near worst case” event to play out with stocks since 1900. I’d prepare for the additional 21% drop at this point with a further reevaluation as earnings begin to roll in – just in case.

It's always important to ensure that you're positioned for negative adversity. If another 21% decline 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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