Remarkable spread in stock valuations at present

[haha]

"Specifically, we have the most fundamentally bifurcated market than I have ever seen in my 25 plus years of actively speculating and investing, as there are more simultaneously historically cheap firms, and historically expensive firms, both occurring at the same time, than I can ever remember, creating what should be a dream environment for the few remaining fundamental stock pickers."

https://seekingalpha.com/article/4230547-fundamentals-wrong-scapegoat

I sure agree with the writer quoted above. "The Market" as judged by the big high volume stocks, especially the famous big tech winners, is expensive. And it is not just those high fliers. The Shiller PE is now 27.50, while its median is much lower at 15.69.

Nevertheless, many ordinary stocks are very cheap with prices lower than reasonable valuations for those same stocks. My memory is that a very similar situation existed at the turn of the century. Favored groups were trading at out-of-sight valuations. In fact, often these high flying stocks had little or no real value, but astonishing market caps. Meanwhile, REITs, as well as equities that represented the industrial heart of America, were being given away.

If there us to be a huge economic discontinuity, as described in another thread by Running Man, all bets are off and comparisons with early times might lead to error. But if not, and if values will eventually command attention, some very compelling bargains are lying around right now. All that will be necessary to bring an adjustment is that business does not fall apart and that most sound companies continue to pay their current dividends.

Ha

 

[ERD50]

Interesting observation. And while I have not done a deep dive in to those numbers, the concept seems more than plausible to me. Just think about how the high flying tech stocks were hammered in 2000.

One modest approach I'd consider, rather than try to pick winners among the lower P/E stocks, would be to try to reduce the impact of the high P/E stocks that are in my broad index funds. So maybe short the stocks in his list, in an amount about equal to their holdings in my index fund. Or buy puts on them, but then you add a timing element.

I can't go short in my IRA though, unless I could find a short fund that covers those stocks - seems unlikely?

-ERD50

 

[Luck_Club]

Though I agree there may be some good fundamental companies to buy out there, articles like these confuse me.

They are saying that CHK & CLF are good value plays when compared to DVN. The problem is CHK & CLF are effectively bankrupt with negative owner equity, and no profits or earnings, and DVN appears to be a dog with a paltry 1.4% yield, and that is after nearly a 40% drop in price.

 

[CyclingInvestor]

Nevertheless, many ordinary stocks are very cheap with prices lower than reasonable valuations for those same stocks. My memory is that a very similar situation existed at the turn of the century. Favored groups were trading at out-of-sight valuations. In fact, often these high flying stocks had little or no real value, but astonishing market caps. Meanwhile, REITs, as well as equities that represented the industrial heart of America, were being given away.
Ha

I remember the REIT mispricing of 2000 well - it was the single biggest reason I was able to retire early. My JNJ, PG, ADP, EMR, AFL etc had PEs of 30-50 or more, while top quality REITs I moved into like Chelsea, Simon, Prologis, Avalon Bay etc had P/FFOs of 7-10, paying 6-10% dividends while growing 6-15% annually. Amazing.

 

[haha]

Though I agree there may be some good fundamental companies to buy out there, articles like these confuse me.

They are saying that CHK & CLF are good value plays when compared to DVN. The problem is CHK & CLF are effectively bankrupt with negative owner equity, and no profits or earnings, and DVN appears to be a dog with a paltry 1.4% yield, and that is after nearly a 40% drop in price.

Interesting thing about CHK is that managers are buying millions of dollars worth of stock on their own dimes.

Ha

 

[foxfirev5]

Good points but I'm sticking with the what does anybody know approach..

 

[Luck_Club]

interesting how to read

Interesting thing about CHK is that managers are buying millions of dollars worth of stock on their own dimes.

Ha

That is interesting. How do you read that tea leaf? Big positive surprise?

 

[24601NoMore]

Great examples of companies that are "historically" cheap (and with great dividend-to-cost percentages)..

- T (7.25%+ divvy; PE of 5, fwd PE of 7.95 - SERIOUSLY?)

- F (7.6% divvy; PE of 5.15, forward PE of 5.63 - ditto)

- CVX (4.1% divvy; more reasonable PE but under-valued by ~20% per M*)

..the list goes on. You can buy some very good companies for CHEAP nowadays..just avoid the high flying FANG stocks. Totally agree on the "bifurcation" currently in the market..

 

[gstillson]

Gilead, 3.77% dividend, fwd pe of 9.17, 29B cash on hand!

 

[Luck_Club]

Great examples of companies that are "historically" cheap (and with great dividend-to-cost percentages)..

- T (7.25%+ divvy; PE of 5, fwd PE of 7.95 - SERIOUSLY?)

- F (7.6% divvy; PE of 5.15, forward PE of 5.63 - ditto)

- CVX (4.1% divvy; more reasonable PE but under-valued by ~20% per M*)

..the list goes on. You can buy some very good companies for CHEAP nowadays..just avoid the high flying FANG stocks. Totally agree on the "bifurcation" currently in the market..

I've been buying T, F & XOM. I feel like I'm missing something because they keep going down.

Commentators keep pointing to the debt load of T as a reason to stay away, but VZ has a higher Debt to Equity ratio. F on the other hand is definitely over leveraged when compared to GM.

 

[OldShooter]

I dunno. Essentially the Seeking Alpha guy is saying that he is smarter than the collective wisdom of the market, which is based on all available information -- far more information than he has. This is Fama's efficient market hypothesis. Even Richard Thaler, who invented behavioral economics, agrees that the safest assumption for an investor is that the market is efficient.

I have previously posted this link to Fama and Thaler discussing the EMH, but it is good one. 42 very worthwhile minutes for any investor. http://review.chicagobooth.edu/economics/2016/video/are-markets-efficient

 

[Spock]

I dunno. Essentially the Seeking Alpha guy is saying that he is smarter than the collective wisdom of the market, which is based on all available information -- far more information than he has. This is Fama's efficient market hypothesis. Even Richard Thaler, who invented behavioral economics, agrees that the safest assumption for an investor is that the market is efficient.

I have previously posted this link to Fama and Thaler discussing the EMH, but it is good one. 42 very worthwhile minutes for any investor. Are markets efficient? | Chicago Booth Review

The market get less efficient as ETFs and Index funds blindly buy and sell with no analysis a stocks fundamentals or justification other than "momentum".

 

[OldShooter]

The market get less efficient as ETFs and Index funds blindly buy and sell with no analysis a stocks fundamentals or justification other than "momentum".

That's a common and somewhat attractive the-sky-is-falling argument for the negative effects of passive investing. Said another way, the argument is that passive funds significantly reduce the quality of price discovery because they ignore the fundamentals when buying and selling.

But this argument misses the fact that index funds trade very little. The last figures I saw were that passive funds held about 40% of the US market cap but represented only about 5% of daily trading. So even if passive funds top out at, say, 60% of the market cap the stock pickers doing their price discovery will probably still represent over 90% of trading. YMMV but I am not worried.

(BTW passive investing has nothing really to do with momentum. The only reasons a passive fund sells or buys are (a) changes in its benchmark index or (b) inflows or outflows of funds. There are momentum funds but I don't think they are a huge influence on the market. Do you have any numbers?)

 

[sengsational]

Like OS, I don't buy that passive investing messes up valuations. The way I look at it, as long as there is a "critical mass" of traders that are looking at valuations (and not just buying the index), those are the ones that are setting the prices.

 

[gstillson]

With the high volatility leading to better premiums for selling calls, one could work out a play on some of these high dividend payers.

If you can collect 4% to 7% dividend and also collect 10% to 15% in call premium selling a Jan 2020 covered call perhaps in the money by a strike or two, it could be a nice way to set up a predicted gain for 2019.

You have to be careful though and don't just pick any old high dividend payer or you could end up with something like Seadrill.

If there were enough of these to spread the risk around a bit. We have listed three or four but I would want at least ten and as many as twenty.

You are going to either look brilliant with your 15% to 20% overall return if we get a sideways market or foolish for taking that return when the DOW goes to 30,000.

edit: the reason I like covered calls on dividend payers is the low tax rate on dividends for lower incomes. Selling cash secured puts on the same would all fall under short term cap gains.

 

[NW-Bound]

I saw that bifurcation too, and wonder how that came about. Not just the trailing P/E, but forward P/E too. So, either analyst projections of earnings are wrong or disregarded by the market, or investors expect something bad will happen to many companies, while the ones with higher P/E will be the only ones to prosper in the future.

Back during the dot-com and tech mania, I recall charting the Dow and the NASDAQ, and they were exactly mirror images of one another; one went up while the other went down. This happened for a couple of months, if my memory serves. And then, that difference reversed when the mania burst.

The market is rational in the long term, but it suffers from bouts of temporary insanity.

 

[gstillson]

For an example, examine Gilead (I am biased because I own shares and like this company).

We could purchase shares for $61.88 and sell a Jan 2020 $60 strike call for $8.75. Our net out of pocket cost for each share would be $53.13. You would collect four dividend payments in total of $2.28, which is a 4.3% yield on the $53.13 share price.

If the shares are called away at $60, you would realize a short term capital gain of $6.87, which is a 12.9% gain. The total gain on this trade if Gilead trades sideways in 2019 and ends at or above $60 is 17.2%

I am not super greedy. I would be happy with 17.2% return in 2019.

 

[NW-Bound]

Sure. But if GILD drops to 45, you still lose (but lose less with the call premium). Anything is possible.

I have lost money quite often like this year, while collecting $107K in call premium this year.

 

[OldShooter]

... You would collect four dividend payments in total of $2.28, which is a 4.3% yield on the $53.13 share price. ...

The share price doesn't go down by the amount of the dividend when the stock goes ex-dividend?

(I'm really not interested in the game, but your statement doesn't square with how I understand things work.)

 

[NW-Bound]

The share price usually goes down with dividend. However, the strike price of the option is not adjusted for the dividend, unless it is a special one-time large cash payout that is unexpected.

In the latter case, the option board adjusts the strike price to make it fair to both parties. This happened to me only once. Of course, strike prices will also get adjusted for stock splits, or the company spinning off a subsidiary,

 

[gstillson]

Sure. But if GILD drops to 45, you still lose (but lose less with the call premium). Anything is possible.

I have lost money quite often like this year, while collecting $107K in call premium this year.

Indeed. The same way you would lose if you bought total stock market in Jan and the market drops 20% during the year. If you had not had your 107k in call premium this year I assume you would have lost even more than you did?

Examining the case where Gilead drops to $45 (which is very pessimistic in my opinion but anything can happen and often does).

Your cost for the shares is $53.13. You collect $2.28 in dividend (with $29B in cash on hand it is unlikely for there to be a dividend cut in 2019). If in Jan 2020 Gilead is $45 and you need to sell, you realize a loss of $8.13 offset by the dividends you collected of $2.28, for a total loss on the investment of 11%

Bad, but not really end of the world bad, especially if you have quite a few different investments in different areas.

 

[gstillson]

Now let us examine T (AT&T).

The current share price is $28.46 at close on Friday. The dividend is $2.04 per year.

The call premiums are not so rich as Gileads, but you can get about $2.45 for a Jan 2020 $28 call.

Thus one could purchase a covered call share of T for $26.01. The dividend yield on that would be 7.8%. If the shares are called away at the $28 strike in 2020, the short term capital gain is 7.7% for a total gain of 15.5%.

You reach the point of zero gain (assuming no dividend cut) if the share price falls to $23.97.


It isn't quite as good IMO as Gilead because of the high debt load but it does have more of the investment in dividend instead of short term capital gain which might mean lower taxes for some.

 

[bmcgonig]

I dunno. Essentially the Seeking Alpha guy is saying that he is smarter than the collective wisdom of the market, which is based on all available information -- far more information than he has. This is Fama's efficient market hypothesis. Even Richard Thaler, who invented behavioral economics, agrees that the safest assumption for an investor is that the market is efficient.

I have previously posted this link to Fama and Thaler discussing the EMH, but it is good one. 42 very worthwhile minutes for any investor. http://review.chicagobooth.edu/economics/2016/video/are-markets-efficient

The previously mentioned time like pre 2000 when all value stocks were murdered and dot coms were bid thru the roof is enough of an example that the markets are not always efficient and that value investors were indeed smarter than the collective wisdom of those in the dot coms.

I remember BRK.A falling by almost half and Buffett telling anyone who wanted to sell, to sell to him. There was nothing efficient about that market imo.

 

[NW-Bound]

Indeed. The same way you would lose if you bought total stock market in Jan and the market drops 20% during the year. If you had not had your 107k in call premium this year I assume you would have lost even more than you did?

Examining the case where Gilead drops to $45 (which is very pessimistic in my opinion but anything can happen and often does).

Your cost for the shares is $53.13. You collect $2.28 in dividend (with $29B in cash on hand it is unlikely for there to be a dividend cut in 2019). If in Jan 2020 Gilead is $45 and you need to sell, you realize a loss of $8.13 offset by the dividends you collected of $2.28, for a total loss on the investment of 11%

Bad, but not really end of the world bad, especially if you have quite a few different investments in different areas.

Well, that has been my rationale for doing what I did. Of course I would miss out and have to sell my stocks for "cheap" if they surged 2x. The chance of that is slim in the days ahead, I think.

And of course, diversification is always important. Always!

 

[OldShooter]

... There was nothing efficient about that market imo.

Did you look at the video?

Personally, I think the market is efficient in the long term but can be very inefficient in the short term. The inefficiency is mostly identifiable in the rear view mirror, though. Not so much through the windshield. That is why stock picking is almost always a losing strategy. All of the stock pickers say they are going to find and take advantage of market inefficiencies in order to produce winning performance.