Tuesday, February 9, 2010

Dissecting another "Lazy Bear" argument....(DIA)

One of the features of the recession - and the extreme stock market swings it's wrought - has been the preponderance of extremely negative views of the US economy's future. Day after day brings another pundit's charge that "The DJIA will fall 50% from here," or "Gold is the only safe place for your money."

Today's example is from Vitaliy Katsenelsen, author of "Active Value Investing." It's a terrific book - I bought it a couple years ago - whose main point is that stock selection will be paramount in the years ahead, because we'll face a "range-bound" market. Katsenelson has analyzed the past hundred years and found that periods of exuberance end with high valuations and lead into a stagnant period where profit margins revert to lower levels and the market generally drifts sideways.

That's all well and good, but on TechTicker the other day, Katsenelson said that, essentially, the DJIA will go nowhere for the next decade. "the market is not going to be very far from where it is today 10 years from now," were his words.

His comments, and then below I'll outline why I think this view is extremely off the mark:





A great quote for money managers, and especially pro's who offer market direction, is "Stay wedded to your wife - not your price target." People get "wedded" to these outlooks, and forget to look "under the hood" at the stocks making up the stock market, as I suggested in my 2010 outlook.

A look at the 30stocks making up the DJIA shows why a flat performance over the next 10 years is a ridiculous idea. I defended Neil Hennessy when he called for a DJIA double in ten years and (he) was lambasted for it, and this is a similar case.

The DJIA climbs 3,418points over ten years simply from it's 2.7% weighted dividend yield. And that's extremely conservative because it does not assume any INCREASES in the dividends, despite the average DJIA stock's dividend increasing 126% from 2002-2009.

(this image is from my October piece, but the yield is nearly the same...)

So there's 34%, what I'd consider to be materially different from where the index is now.

Then you factor in earnings growth. Yes, yes, yes, I know that we're a 70% consumer-driven economy and the consumer is dead, blah blah. But the DJIA gets about 60% of it's revenue (and that's a LOW estimate) internationally, which is growing faster than domestic markets. But to be fair to my own pessimism, I'll assume company earnings per share grow only 50% in TOTAL over the next 10years, then apply a PE of 15x 2020 earnings per share. That's extremely conservative too by the way, as DJIA companies have grown EPS 191% in the past 7years, versus the 50% I'll estimate for the coming ten years. That earnings growth gets us to another 10,143 points on the index, for a DJIA price target of 23,597 in ten years, or +135%.

If that target gives you sticker shock, take a look at just how conservative this analysis is - this assumes Cisco (CSCO) stock goes up to $38 in TEN YEARS, when in fact I think we'll see that price in 18months. It only assumes PG and KO stocks go up 50% and 41% respectively, which will prove laughably low.

I appreciate negative views, positive views and anything in between - I just hope people do their homework before pontificating on the direction of markets.


Copyright 2010 AlphaNinja

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