I’m sympathetic to Chris’s views as a trader because it’s so hard to game the short-term machinations of the market, and a “technical system” – for lack of a better description – such as one that Chris uses is almost certainly better than using fundamentals in the short term.
Having said that, I have my doubts as to whether such systems are going to “work” properly in the current environment because the credit/insolvency crisis (which is “fundamental” in nature) that we’re witnessing is so rare. Therefore, using past trading data – which is the basis for all technical systems – isn’t of much use unless it incorporates and heavily emphasizes those previous periods that are similar to this one, such as the lead-up to the ’90-’91 and ’80-’82 recessions. Obviously, I could be totally wrong, but I think we’re in very rarely charted territory and one could argue downright uncharted territory when taking into account the derivative situation.
EPS on the S&P 500 were $85.19 in 2006. Including the financials write-downs and the huge GE write-down, EPS were $71.56 for 2007. For 2008, the EPS estimate began at $92.30 in March of ’07 and is now at $71.20… and that assumes 20%+ Y/Y growth in the second half of ’08. Given that we are likely just creeping into recession (or perhaps have been in one for the last couple of months), it seems HIGHLY unlikely that we’re going to see 20% Y/E EPS growth on the S&P in the second half; thus we could easily see $65 in EPS in 2008 which, by the way, gets us back to NORMAL profit margins on the S&P historically. That means we could very well be trading at a 21x EPS multiple on (finally) normalized earnings power for 2008. That ain’t cheap.
Jeremy Grantham recently said that trend line (that is, “mean reverting”) margins, earnings and valuations (assuming interest rates are similar to today’s) puts the S&P at 1100 in 2011 – that’s 18% below today’s prices. Again, I realize that I’m talking about fundamentals here, but no matter where this market rallies over the next couple of months, I think the intermediate term trajectory – that is, over the next 12-18 months, is down down down. At some point, the fundamentals matter and the long-awaited mean reversion will kick in, just as it did briefly in 2001-2002. And regardless of who’s President, they ain’t gonna be able to save the credit markets from a severe ass whoopin’.
Again, day-to-day trading… who knows? The credit markets are screaming that something’s seriously wrong. Eventually the equity market’s going to listen. The tail can’t wag the dog forever.
