Value Investing

Looking At A Decade Of US Equity Valuations

Looking At A Decade Of US Equity Valuations by Eric Bush, CFA, Gavekal Capital Blog

Get The Full Seth Klarman Series in PDF

Get the entire 10-part series on Seth Klarman in PDF. Save it to your desktop, read it on your tablet, or email to your colleagues.

Expensive stocks can always get more expensive and cheap stocks can always be cheaper. Consequently, making short-term market calls based on valuations is a fool’s errand. However, valuations end up always mattering in the long-run even if they are usually usurped in the short-run by investor sentiment. Therefore, we thought it would be a worthy exercise to take a look at how US equity valuations by industry group look today relative to the past decade. As usual, all of this data is on an equal-weighted, intangible-adjusted basis and the tables are formatted by row. This means that the highest data point in any row is the darkest color green and the lowest data point in any row is the darkest color red. As you will see, all tables are clearly flashing green, however, perhaps a bit less so than they were in 2013 and 2014.

Our first table looks at price to book value ratios. Many industries are currently at decade high valuations level. These industries include automobile & components, diversified financials, and pharmaceuticals, biotechnology & life sciences to name a few. Energy clearly stands out here as this is the 2nd lowest price to book ratio that energy has traded at over the past decade. Price to book valuations only were lower in the financial crisis. There seems to have been a significant re-valuation of Commercial & professional services before and after the financial crisis. Prior to the financial crisis this group traded between 1.5x-2.2. Since the crisis, however, it has traded between 3.5x -9x book value.

US Equity Valuations

From a price to cash flow perspective, 14 out of the 24 industry groups are trading above 10x cash flow. In 2014, 12 industry groups traded above 10x cash, in 2013 8 industry groups traded above 8x cash and in 2008, not surprisingly, zero groups traded above 10x cash flow. Pharmaceuticals, biotechnology & life sciences continue to trade by far at the most rich valuation levels as they are the only group trading above 20x cash flow. Energy and Utilities are the two cheapest  at 8x and 6.6x cash flow, respectively.

US Equity Valuations

From a price to sales perspective, only one group, food & staples retailing, is trading below 1x sales. However, this group always trades below 1x  sales. 16 out of the 24 industry groups are currently trading above 2x sales. Consumer services and media both stand as these two groups are well below decade high valuations, both in 2004, Consumer services traded at 7.7x sales in 2004 and currently trades at 2.5x sales. Media traded at 7.1x sales in 2004 and currently trades at 2.1x sales.

US Equity Valuations

All in all, valuations seem rich in the US looking at a decade long view. Given how far along in the economic and market cycle, this shouldn’t’ be surprising to anyone. Investors in the US should continue to be selective regarding US groups as the recent market volatility didn’t put any industry groups on sale.