The Investment U E-Letter
Thursday, January 23, 2003
* * * * * * * The Year 2031…
When Nasdaq Will Finally Be a Good Buy
By Dr. Steve Sjuggerud
President, Investment U
Ugh. I just ran some simple numbers on the Nasdaq, and came to an ugly conclusion:
If the Nasdaq Index stays flat, Nasdaq stocks may finally be a "reasonable" investment value in the year 2017. And if it continues to stay flat, Nasdaq stocks will finally be a "good buy" by 2031. Ugh. So what does this really mean for you as an investor? Should you avoid the stock market completely? And just how did I arrive at these numbers, anyway? Let's take a look at the arithmetic first… The way I calculated these "estimates" was simple. I used stock market history to define what a "reasonable" value was. And I generously assumed that all Nasdaq companies could grow their earnings, sales, and book values by 6% a year (that's twice as fast as the economy). What I found astounded me… if the Nasdaq Index didn't move from there - meaning the index stays flat - we would finally arrive at a "reasonable" value for the Nasdaq in the year 2017. In other words, it would take nearly 14 years for corporate growth to finally catch up with stock prices. How I Define "Reasonable" Value I've always figured that a reasonable fair value for stocks is somewhere around 15 times earnings, 2 times book value, and one times sales. This is about the average value of stocks throughout financial history (it's actually a little generous). Right now, based on my calculations of the 100 largest U.S.-based companies on the Nasdaq, we are a long way from "reasonable value." The median price-to-earnings ratio on the Nasdaq is 33.
The median price-to-book value on the Nasdaq is 3.8.
And the median price-to-sales ratio on the Nasdaq is 3.7. These numbers are significantly higher than "reasonable." In order for the Nasdaq to fall back to "reasonable" value, it would have to lose over 2/3 of its value. How I Get To 2017, Or 2031 If Nasdaq companies can grow their sales, earnings, and book values by 6% a year, and the Nasdaq Index stays flat, Nasdaq stocks will reach fair value in the year 2017. However, consider this: Stocks don't usually fall to their average historical values and then stop. They generally go way above and way below it - that's how the average is created. So if Nasdaq stocks were to fall to a typical bear market low, like, say, the end of 1981, it would take until the year 2031 to break even on Nasdaq stocks. (In 1981, stocks were trading at 8 times earnings, 0.85 times book value, and 0.35 times sales.) If we back off our 6% growth assumption, and assume that Nasdaq companies can grow their earnings, sales, and book values at 5% a year instead, then Nasdaq stocks will be a "good buy" in 2037. Ouch. The financial press may tell us that in the long run, stocks are the only path to wealth. But I think it's also important to remember John Maynard Keynes's famous quote, "In the long run, we're all dead." Today's IU Crib Sheet - In previous issues of the Investment U E-Letter, I've shared bond plays, gold plays, interest rate plays through virtual banks, and more. The truth is, there are many paths to wealth. And the stock market, particularly Nasdaq stocks, may not be one of them.
- To learn more about my favorite plays along those "other" paths to wealth, simply visit the IU E-Letter archives. You can read about two of my favorite bond plays by reading IUEL #134 and IUEL #179. And to learn about the smartest way to buy gold, please see IUEL #189.
Good investing,
Steve
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