How low can stocks go? Updated risks and values – April 5th, 2021

How low can stocks go? Updated risks and values – April 5th, 2021

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: within 1%
  • S&P 500: Record high
  • Nasdaq: off 5%

After a furious rally on Friday, the S&P 500 closed at a record high, the DOW is just about there as well and the Nasdaq has recovered close to 10% from recent lows. Optimism reigns supreme on back of Friday’s job’s report – the best since last August. Lingering concerns about the potential for a double-dip recession on back of the recent uptick in COVID-19 cases have pretty much disappeared at this point. That’s not to say it’s all sunshine and lollipops from here. With higher interest rates and higher inflation generally – led by energy prices, consumer spending could be significantly impacted from here. Especially once the effects from the most recent round of debt spending stimulus checks run their course. The other dynamic which could be problematic are the potential 33% corporate tax increases President Biden has proposed. Needless tosay33% less profitability isn’t good for businesses or investment. 

As we enter this week here’s where the market stands based on fundamentals using the S&P 500 as the example.

  • S&P 500 P\E: 40.93
  • S&P 500 avg. P\E: 15.91

The downside risk is 61% based on earnings multiples right now from current levels. That's 45% more risk compared with this time last year. The difference is so stark in part because the market was in the throes of the short-lived market crash over pandemic fears a year ago. Regardless, the market remains historically expensive right now. Stocks are clearly priced for earnings to continue to rebound in 2021. If the economy does continue to recover as expected, stock prices can be justified. If there’s a double-dip recession – hold your butt...there’s a lot of room for downside. That’s basically where we are right now.

It's always important to ensure that you're positioned for negative adversity. If a 61% 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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