EC Don't Look Now But Valuations Are Improving

Unless you've been living in a cave or don't spend your day with stock market machinations, you likely know that the current earnings parade has been stellar.

According to Deutsche Bank, with 296 of the S&P 500 companies reporting so far (or 71%), 88% have exceeded the consensus estimates - which is a record. And EPS has come in 16% above expectations, which is more than triple the average of 5% seen over the last 15 years. The chart below tells the story nicely.

Earnings "Beat" Rate - S&P 500

Image Source: Deutsche Bank

With earnings surging at a record-breaking rate, the good news is that P/E ratios are starting to move lower. Below are a couple charts that make this point. First up is a broad market look via the P/E on the Value Line.

Value Line P/E Ratio

Image Source: Ned Davis Research Group

While I am not about to argue that the P/E low or stocks are cheap, as this chart indicates, stocks can advance with P/E's at the current levels. And as long as the "E" continues to improve at a healthy clip and stock prices don't get overly exuberant going forward, the P/E Ratio can continue to move lower.

However, as the bears will quickly point out, a couple quarters of strong earnings doesn't mean the market is out of the woods. Below is a chart of the P/E of the Median stock in the S&P 500. This is designed to show the valuation of the median stock in the index - with half above and half below.

Median P/E  Ratio - S&P 500

Image Source: Ned Davis Research Group

While this chart can still be placed in the "scary" category, the point is that the P/E has started to move lower. But one can also argue that stocks are "priced for perfection" at this stage. And it is for this reason that I believe investors have to recognize that (a), risks remain elevated and (b), it may be necessary to play some defense in the near-term given the state of COVID-19 and the historical cycles.

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The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning's opinions and viewpoints regarding the future of the markets should ...

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