It is not uncommon for an investor to say that the stock market seems like a casino. In Las Vegas, the house has the edge. In every game, the odds are narrowly in the favor of the casinos so that after many games, the law of large numbers guarantees that the casinos will win more games and take in more money from gambling customers than they pay out to them. In the stock market, the long-term investor has the chance to be the “house”.
In our financial plans, we assume that the odds of the stock market exceeding the rate of inflation over a given year is about 60% (the historical odds are a bit higher but we prefer to be more conservative). That would be like a coin with a tiny bit of paint on the heads side such that after every 100 flips, approximately 60 come up heads. During most years, 60/40 odds compared to a 50/50 bet are not even perceptible to most investors. But for the disciplined, patient, long-term investor, this is an edge — or a structural advantage, as finance professionals refer to it — and it is everything. The likelihood that stocks beat inflation rises dramatically to 90/10, if the stocks are held for 10 years. Those are the types of odds on which we can construct a lifetime financial plan. The long-term investor has an edge over the market, and few know it.
Is the Market Overheated?
On March 1, the S&P 500 closed at a new all-time high of 2,395.96. The consensus estimate for the 12-month forward earnings of those same 500 companies on that day was $133.78. This means the forward-looking price to earnings ratio, or P/E, of the S&P 500 on that day reached 17.9 (2,395.96 divided by 133.78). This is a commonly watched, albeit imperfect, indicator for the temperature of the market. The 25-year average P/E is 15.9.
If we flip the P/E ratio upside down (1 divided by 17.9), it tells us what yield the 500 companies are expected to earn us, which on 3/1/17 was 5.6%. The 25-year average is 6.3%. The yield on the 10-year U.S. Treasury bond is currently 2.5% and its 25-year average has been 4.5%. The S&P 500’s yield in excess of Treasuries (3.1%) is more attractive than it has been on average over the past 25 years (1.8%).
Too often, investors look at simple “nightly news” types of values to determine if something is overvalued, rather than looking at the underlying substance of what they’re invested in, corporate earnings. Through this lens, today’s market value is not extreme at all.
Disclosure: Abacus Wealth Partners, LLC (Abacus) is an SEC registered investment adviser with its principal place of business in the State of California. Abacus may only transact business in those states in which it is notice filed, or qualifies for an exemption or exclusion from notice filing requirements. This brochure is limited to the dissemination of general information pertaining to its investment advisory services. Any subsequent, direct communication by Abacus with a prospective client shall be conducted by a representative that is either registered or qualifies for an exemption or exclusion from registration in the state where the prospective client resides. For information pertaining to the registration status of Abacus, please contact us or refer to the Investment Adviser Public Disclosure web site (www.adviserinfo.sec.gov).
This is not an offer to sell any type of security, and there is no investment currently available through Abacus. This information is provided for educational purposes only and should not be considered investment advice or a solicitation to buy or sell this security. This newsletter contains general information that is not suitable for everyone. The information contained herein should not be construed as personalized investment advice. Information was based on sources we deem to be reliable, but we make no representations as to its accuracy. Past performance is no guarantee of future results. There is no guarantee that the views and opinions expressed in this newsletter will come to pass. Investing in the stock market involves gains and losses and may not be suitable for all investors. Information presented herein is subject to change without notice and should not be considered as a solicitation to buy or sell any security.
For additional information about Abacus, including fees and services, send for our disclosure brochure as set forth on Form ADV from us using the contact information herein. Please read the disclosure brochure carefully before you invest or send money.
Note from the CIO: Your Edge
The Abacus Investment Committee
Please note the publish date of this blog. Financial information, market conditions, and other data mentioned in this post may no longer be accurate or relevant.
It is not uncommon for an investor to say that the stock market seems like a casino. In Las Vegas, the house has the edge. In every game, the odds are narrowly in the favor of the casinos so that after many games, the law of large numbers guarantees that the casinos will win more games and take in more money from gambling customers than they pay out to them. In the stock market, the long-term investor has the chance to be the “house”.
In our financial plans, we assume that the odds of the stock market exceeding the rate of inflation over a given year is about 60% (the historical odds are a bit higher but we prefer to be more conservative). That would be like a coin with a tiny bit of paint on the heads side such that after every 100 flips, approximately 60 come up heads. During most years, 60/40 odds compared to a 50/50 bet are not even perceptible to most investors. But for the disciplined, patient, long-term investor, this is an edge — or a structural advantage, as finance professionals refer to it — and it is everything. The likelihood that stocks beat inflation rises dramatically to 90/10, if the stocks are held for 10 years. Those are the types of odds on which we can construct a lifetime financial plan. The long-term investor has an edge over the market, and few know it.
Is the Market Overheated?
On March 1, the S&P 500 closed at a new all-time high of 2,395.96. The consensus estimate for the 12-month forward earnings of those same 500 companies on that day was $133.78. This means the forward-looking price to earnings ratio, or P/E, of the S&P 500 on that day reached 17.9 (2,395.96 divided by 133.78). This is a commonly watched, albeit imperfect, indicator for the temperature of the market. The 25-year average P/E is 15.9.
If we flip the P/E ratio upside down (1 divided by 17.9), it tells us what yield the 500 companies are expected to earn us, which on 3/1/17 was 5.6%. The 25-year average is 6.3%. The yield on the 10-year U.S. Treasury bond is currently 2.5% and its 25-year average has been 4.5%. The S&P 500’s yield in excess of Treasuries (3.1%) is more attractive than it has been on average over the past 25 years (1.8%).
Too often, investors look at simple “nightly news” types of values to determine if something is overvalued, rather than looking at the underlying substance of what they’re invested in, corporate earnings. Through this lens, today’s market value is not extreme at all.
Disclosure: Abacus Wealth Partners, LLC (Abacus) is an SEC registered investment adviser with its principal place of business in the State of California. Abacus may only transact business in those states in which it is notice filed, or qualifies for an exemption or exclusion from notice filing requirements. This brochure is limited to the dissemination of general information pertaining to its investment advisory services. Any subsequent, direct communication by Abacus with a prospective client shall be conducted by a representative that is either registered or qualifies for an exemption or exclusion from registration in the state where the prospective client resides. For information pertaining to the registration status of Abacus, please contact us or refer to the Investment Adviser Public Disclosure web site (www.adviserinfo.sec.gov).
This is not an offer to sell any type of security, and there is no investment currently available through Abacus. This information is provided for educational purposes only and should not be considered investment advice or a solicitation to buy or sell this security. This newsletter contains general information that is not suitable for everyone. The information contained herein should not be construed as personalized investment advice. Information was based on sources we deem to be reliable, but we make no representations as to its accuracy. Past performance is no guarantee of future results. There is no guarantee that the views and opinions expressed in this newsletter will come to pass. Investing in the stock market involves gains and losses and may not be suitable for all investors. Information presented herein is subject to change without notice and should not be considered as a solicitation to buy or sell any security.
For additional information about Abacus, including fees and services, send for our disclosure brochure as set forth on Form ADV from us using the contact information herein. Please read the disclosure brochure carefully before you invest or send money.
Disclosure
Abacus Wealth Partners, LLC is an SEC registered investment adviser. SEC registration does not constitute an endorsement of Abacus Wealth Partners, LLC by the SEC nor does it indicate that Abacus Wealth Partners, LLC has attained a particular level of skill or ability. This material prepared by Abacus Wealth Partners, LLC is for informational purposes only and is accurate as of the date it was prepared. It is not intended to serve as a substitute for personalized investment advice or as a recommendation or solicitation of any particular security, strategy or investment product. Advisory services are only offered to clients or prospective clients where Abacus Wealth Partners, LLC and its representatives are properly licensed or exempt from licensure. No advice may be rendered by Abacus Wealth Partners, LLC unless a client service agreement is in place. This material is not intended to serve as personalized tax, legal, and/or investment advice since the availability and effectiveness of any strategy is dependent upon your individual facts and circumstances. Abacus Wealth Partners, LLC is not an accounting or legal firm. Please consult with your tax and/or legal professional regarding your specific tax and/or legal situation when determining if any of the mentioned strategies are right for you.
Please Note: Abacus does not make any representations or warranties as to the accuracy, timeliness, suitability, and completeness, or relevance of any information prepared by an unaffiliated third party, whether linked to Abacus’ website or blog or incorporated herein, and takes no responsibility for any such content. All such information is provided solely for convenience purposes only and all users thereof should be guided accordingly.
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