2+2=7 In The Stock Market

2+2=7 In The Stock Market

Amazon trades at a P/E of 250. Facebook is 40. For Air BNB, Tesla and Uber the P/E are undefined because they don’t have profits yet. The list goes on for many tech companies. The high P/Es reflect the rapid expected growth in profits and cash flow as companies like these disrupt the market.

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While all this disruption has been going during the recovery from the financial crisis real economic growth has been sluggish - averaging about 2%. That is a particularly low rate for an economic recovery. Nonetheless, the S&P 500 has risen by a factor of about 4 - ignoring dividends! That increase is not due to tech companies alone. Prices and valuations have risen pretty much across the board. As the Economist reported, P/Es of old line industries like hotels, credit cards, consumer proucts and so on are all well above historical averages expecting meaningful growth there too. This leads to the question, who does the market expect tech to disrupt. If the overall economic growth remains near 2%, the only way for tech company profits to growth far in excess of that is to take business from old line firms. But those old line firms are also expected to grow faster. It is as if
2 + 2 = 7. That arithemetic is another reason why I am worried about current market valuations.

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John BuckinghamJohn Buckingham's presentation titled, 'Busting the Myths & Seven "Valuable" Themes for 2021'. The webinar  for ValueWalk Premium members took place on 2/23/2021, and was followed by a Q&A. Stay tuned for our next webinar, Q4 2020 hedge fund letters, conferences and more John Buckingham Principal, Portfolio Manager, Kovitz Editor of The Prudent Speculator newsletter Read More

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Bradford Cornell is an emeritus Professor of Financial Economics at the Anderson School of Management at UCLA. Prof. Cornell has taught courses on Applied Corporate Finance, Investment Banking, and Corporate Valuation. He is currently developing a new course on Climate Change, Energy and Finance. Professor Cornell has published more than 125 articles and four books on a wide variety of topics in applied finance. Professor Cornell is also a managing director at BRG where he heads the practice on Climate Change, Energy and Finance. In addition, he is a senior advisor to the Cornell Capital Group and to Rayliant Global Advisors. In both capacities, he provides advice on fundamental investment valuation.

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