Standard & Poor’s, the long-time trusted bastion of stock market data and indexing, has just recently revamped their website, and it now discourages the general public from accessing its vital stats. What was once clearly published regularly in an easily accessible part of their website is now hidden behind a registration page which requires first and last names, company name, email address, and phone number. And “why?” you may ask. We can’t be sure, but the deteriorated status of the stock market data is looking more and more like a good thing to hide while the tout-TV, government, and Federal Reserve “experts” prattle about “recovery.” In particular, the stratospheric P/E ratio for the S&P index itself is looking more and more like something they may benefit from hiding.
What is a P/E ratio and why is it important? At its most basic, a P/E (Price-to-Earnings) ratio is a number that compares the current price of a stock to the amount of earnings-per-share from the last quarter. This is important because it gives a fairly good gauge of how good a deal any given stock is as far as how much you have to pay in relation to how well the company is performing.
For example, a stock that is bringing in lots of money and is priced appropriately will tend to have a lower P/E ratio. If a stock currently sells for $10/share and the company earned $1/share over the last year four quarters, then the P/E would be 10:1, or just 10. A P/E of 10 or less is normally considered a decent price. A number higher than this generally indicates greater risk. A P/E as high as, say, 25, would almost always signal a “hands off” stock. Such as P/E represents some serious problem somewhere in the clockwork of a given market.
Historically, the S&P has averaged about 15 as its median P/E. During the peak of the dot-com craze in March 2000, the average P/E for the tech market (NASDAQ) was a whopping 120, and during that time the S&P’s average P/E surged to 44 (the NASDAQ had hit a P/E of 206 in the prior quarter of December 1999). It was hands-off and unload-time across the board, but especially for the dot-com tech stocks. When it burst, the bubble evaporated $5 trillion in alleged market value, the NASDAQ plummeted from 5,000 to eventually under 2,000 (60% loss), and the S&P from 1,500 to 1,100 (27% loss). The huge P/E ratios here were due to a speculative bubble in the tech stocks.
According to its latest (and last easily accessed) posting, the S&P has reached a P/E of 140. Remember, the S&P represents a much broader stock cross-section of the market in general than the tech-stock-heavy NASDAQ. Most analysts are arguing that this is not a speculative bubble, but an anomaly due to the negative earnings banks incurred in December 2008. The enormous write-offs led to losses so steep they have caused the P/E to sag for the entire twelve-month period since. According to the analysts’ theory and S&P’s own forecasts, we should see a return to something more normal after the earnings from December 2009 enter the books and the huge losses from December 2008 drop out. Then, we should expect a return to something like a P/E of 25 or 30—still high, but nothing like the apparent bubble based on the current numbers.
It’s no wonder the S&P wants to make the current numbers harder to access. The numbers appear to forecast financial doom. The problem is that we have to weather earnings through November and December, and meanwhile, the organization S&P was updating their page monthly. It appears that S&P has stopped easy access to the numbers in order to both stymie the public buzz about overvalued stocks, and to keep digital track of those who care to register and find out. Since those who register will be the only people spreading the news from now on, the fact that S&P requires company, email, and phone number info for registration means that they want to know who’s talking and how to reach them. This is a measure of intimidation to ward off the general public for sure.
The only way to avoid a bubble-burst ahead is for stock earnings to return to previous norms. This “normal” will almost undoubtedly return, but this involves an interesting element. We know that bank losses were only able to be overcome on paper due to the huge bailouts and the Federal Reserve’s infusion of $700 billion into the Monetary Base. Banks did not use this money to lend to businesses, but only for the “zombie banks” to hold on their books in order to appear profitable once again. The banks have not lent, they have only turned back around and deposited the huge sums back with the Federal Reserve Bank which pays them less than a quarter of a percent interest on the deposits. This shows that the banks are terrified of lending for fear of defaults and further losses, and will settle for the most minimal investment possible with bailout money. The banks are only able to appear profitable due to the bailouts, so they must continue to hold it for some time. Thus, any coming return to the “normal” S&P earnings levels will have to carry the asterisk of “post-bailout” earnings: the big banks that survived only did so due to bailouts, and the hundreds of banks that died do wonders for earnings levels as their numbers no longer appear on the market period.
Not only do the current reported earnings hinge on financial bailouts, the financial sector is about the only sector within the S&P that shows much impressive growth at all. Most other sectors are still negative for the third quarter (which is not weighted down by averaging-in Dec. 08). Bloomberg makes this point using S&P’s own published numbers. One story shows how most other sectors within the S&P are dramatically negative while the financials have grown astronomically. The key number in the data is “ex-financials”—this reveals that excluding financials, the third quarter experienced an aggregate earnings loss. It actually had a loss with the financials according to the data, but without them it is even worse. This is the effect of the bailouts, but the bailouts are not having the full effect they were promised to have: to save the banks in order to save the broader economy. The numbers reveal the opposite: the banks are thriving on government stuffing while the business sectors in general continue to starve.
Despite all of this, you can bet any return to lower S&P P/Es after the fourth quarter will be heralded throughout financial headlines—maybe even mainstream headlines—as a huge sign of “recovery.”
But the big “post-bailout” paradox remains, and this is the central question of the recession vs. recovery tension we live in right now. The broader economy cannot survive if the banks do not lend to businesses. If they don’t, many more earnings will be at stake than just the financial sector from December 2008. Thousands of businesses need lines of credit to keep running month-to-month, and if the banks don’t lend to sustain these businesses, the talk of recovery is a dream and unemployment will continue upward. But if the banks do lend, then that huge infusion from the monetary base will no longer stay deposited with the Federal Reserve. But then the “fractional reserve” factor will kick in, and that $700 billion will enter public circulation as several trillion. If this happens, we will see terrible price inflation and perhaps new speculative bubbles in some sectors.
So, in short, in order to sustain earnings, we will almost certainly have inflation, and in order to avoid inflation we must risk foregoing recovery and exacerbating the effects of recession. The Federal Reserve claims it can walk the tightrope and have both recovery and stable money while avoiding the pitfalls of either. This would be an unprecedented achievement in the history of central banking and government-regulated money supplies.
The next couple of months could present momentous financial news. Spending during the holiday season could just be the iceberg for the Titanic. Poor Christmas shopping numbers will hurt earnings and spread pessimism. If S&P earnings don’t return to anything like the expected normal, then the P/E will remain high and the stocks will be exposed as highly overvalued. And then the experts will not have the bank failures to blame so easily anymore. If earnings do get close we will still have to watch them closely, as a steady decline will signal weakening despite the passing of the December 2008 anomaly. And we must still closely watch the banks’ behavior with the bailout billions. What happens there will say a lot more about the road ahead.
S&P seems to want to keep the earnings numbers under close wraps. But this could lead to the biggest Christmas surprise. Pulling the media’s and the government’s pretty bows and paper from the surface will reveal the Federal Reserve to be a dirty Santa—robbing from the value of your dollars in order to stuff stockings for the big banks. A bad shopping season could very well start to unravel the truth. The best Christmas present I can imagine right now would be gold or silver coins. If you’re shopping for a loved one, start with that. I would buy earlier rather than later.