Thursday, May 14, 2009

Top Third of the S&P500 - quick look

Making up 4% of the 500 members, the 21 stocks in the chart at the bottom of this post constitute 1/3 of the index's weight - offering us a reasonable representation of the index's fundamentals. After looking at the ShillerPE valuation of the index yesterday, it's worth looking at some other metrics as well. For the most part I'll exclude the financials (JPM, GE, WFC) when looking at free cash flow and dividends, which could be all over the map for those companies.

An average dividend yield of 3.6% is a little bit above the 1960-2008 average, but compares favorably with the US 10year yielding 40basis points lower. When the index's yield peaked at 5-6% yields, it had to compete with treasuries hovering around 10% - not a likely situation now.



Trailing and forward PE ratio's are at 12.5. Some of the world's best companies are trading for nearly single digit PE's - for many of them that is half their 20 year median multiples. Earnings streams as reliable as the ones outlined below will not remain at PE's near the single digits - they are cheap.



Using consensus earnings estimates and my own rough estimates for Depreciation/Amortization and Capital Outlays, the average FCFY (Free Cash flow Yield, or FCF/Market cap) is 8%, and it's 9% after netting out cash on the companies' balance sheets. Microsoft's recent financing activity (http://alphaninja.blogspot.com/2009/05/microsoft-very-attractive-funding.html) should be a clue that these companies' cost of capital is well below what they're yielding in Free Cash Flow.



So - as attractive as I find the S&P500, after the recent pop I think we're in a "range-bound" situation, which is why I shorted (by way of buying the SDS), hoping to get long again about 10-15% lower than these levels.



(Disclosure - short exposure through SDS)

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