By
William Smead
:
Everyone wants to wait for the perfect time to buy into the
stock market or into any major investment market. They want to
enter at historically cheap prices or at "absolute values." We at
Smead Capital Management believe that these people are kidding
themselves and everybody else. At the time of historical lows and
"absolute value," those same folks are too mortified to pull the
trigger (think March of 2009) and always come up with the reason
that "it's different this time." Inertia rules the day.
Therefore, we have to deal in the world of "relative value."
Thanks to a
recent article
in the
Financial Times
by Peter Tasker, we have access to some terrific long-term graphs
on the value of a wide variety of investments and products priced
in gold. In fact, Tasker references the website,
http://pricedingold.com/
, which has a treasure trove of information about where things are
priced currently compared to history in the form of ounces or grams
of gold.
This got me thinking a great deal about pricing common stocks
today by various popular measures. For example, if you prefer to be
bearish on U.S. stocks, you whip out the 10-year Schiller numbers
and compute the S&P 500 Index P/E ratio on a "smoothed" basis.
Since we've had the deepest recession since the 1930s, one of the
slowest recoveries ever and a housing depression, the 10-year
Schiller PE ratio is higher than the historical average at 18.8
P/E. On that basis, you'd want to be extremely cautious with U.S.
common stocks.
On a consensus estimate basis, stocks look historically
under-priced at around 13 times earnings. This compares to a
multiple of 15-16 P/E over the last 50-100 years. The bearish
argument to that positive is that S&P profit margins are the
highest they've ever been and must revert to the mean. When the
reversion happens, earnings will be far lower and stocks will go
nowhere, or so say market bears. To get our opinion on this
subject, refer to our missive entitled
"Stock Picking in a World of Profit Margin Mean
Reversion."
However, thanks to Peter Tasker's thoughts, we need to have a
discussion about the places that money is currently stored and
compare them to the S&P 500 Index from a long-term standpoint.
In the article, "Cash Out of Gold and Send Your Kids to College,"
here is how he got my thoughts and shopping comparisons
started:
This makes sense. For most of human history, gold existed
as an alternative to conventional finance, a "store of value"
that could be relied on in times of distress and crisis. Gold
bugs may hate to admit it, but those days are long gone. Gold
has become just another financial asset, as vulnerable to the
shifts of investor sentiment as an emerging market.
It is symbolic of today's world that one of the largest
exchange traded funds is invested in gold bullion, not
equities.
Tasker pointed out that gold has always been a place that folks
store some of their assets. Unfortunately for gold bugs, we believe
it is getting severely out of whack with the price of important
assets and goods for which gold can be traded. Its relative value
is out of line. According to Tasker:
The current bull market saw the gold price rise from $280
an ounce to $1,900 in 10 years. This is a rate of ascent
comparable to some of the great historical bubbles, such as
Japanese stocks in the 1980s, Nasdaq in the 1990s and Chinese
stocks more recently.
In inflation-adjusted terms, gold remains within spitting
distance of the all-time high it reached in 1981. After that it
embarked on a 20-year bear market, which delivered a loss of 80
per cent in real terms and a far greater opportunity cost as
other financial assets soared in price.
Even now the total market value of all the gold in
existence -- which, remember, generates a return of precisely
zero -- exceeds the combined capitalization of the German,
Chinese and Japanese stock markets, with all the productive
capacity they represent.
With this paragraph, Tasker got me really excited and my
economic academic discipline began boiling up inside of me:
According to the website pricedingold.com, gold is at a
120-year high (at least) relative to U.S. house prices.
Likewise, it is at a 74-year high relative to U.S. wages, at
multi-generation highs relative to wheat, coffee and cocoa and
at the same price relative to the cost of a Yale education as
in the first decade of the 20th century.
He didn't include the S&P 500 Index, but at
pricedingold.com, you'll find it is at the lower end of the last 60
years when priced in gold.
My mind quickly moved to the other liquid asset classes where
folks store their money beside gold and U.S. common stocks. This
would include U.S. Treasury Bonds, Bills and Notes, Certificates of
Deposit (CDs) and other longer-term bank savings deposits, money
market funds, corporate bonds (both high-grade and junk),
commodities/commodity indexes, foreign bonds and international
common stocks. Many of these are owned through mutual funds or
ETFs, but for the sake of our discussion, they will be lumped
together.
For the purpose of this missive, we will frame our relative
value view of what Warren Buffett calls "currency investments" to
the income they provide currently compared to the income they have
provided historically. On both an absolute basis (interest rates
lower than any time in the last 50 years) and a relative basis (as
compared to the dividend yield on the S&P 500 Index), earning
interest through the vehicles listed above is at an extreme. The
opportunity cost of not owning interest-bearing securities is the
lowest in U.S. history. Ironically, both institutional and
individual investors have poured money into these categories over
the last five years.
It is even more exciting to compare U.S. large cap common stocks
to interest bearing securities if you normalize dividend payout
ratios for the S&P 500 Index. In 2011, the payout ratio was
26%. Howard Silverblatt, the historian for S&P, reports that
the average payout ratio from 1990 to 2010 was 46%, and the 75-year
average was 52.3%. He also shared that the current payout ratio is
close to what it was in 1936 during the Depression. You think
people might have been scared then? At a 52.3% payout ratio, the
S&P would yield over 4% today! If something happens to cause
leaders of the S&P 500 Index companies to normalize payout
ratios in the next 10 years, stocks could be attractive on an
income basis for years. And they could be very competitive on an
opportunity cost basis with "currency investments" as interest
rates rise.
We have shared how over-priced we believe commodities are on a
long-term basis in previous missives, so we won't belabor the
point. We also believe the international stock market won't be good
competition to the U.S. large cap stocks until lower commodity
prices have been priced into all the BRIC and BRIC-related equity
markets around the world.
In summary, most of the places to put money among the liquid
asset categories are very expensive relative to U.S. large cap
stock ownership at this time. It could be that U.S. large cap
stocks are incredibly undervalued and/or some combination of both.
If the long-term charts at pricedingold.com are any indication and
these historically low interest rates end, these next 10 years
could be a great deal of fun for common stock investors in the U.S.
on a "relative" basis.
Disclosure:
I have no positions in any stocks mentioned, and no plans to
initiate any positions within the next 72 hours. I wrote this
article myself, and it expresses my own opinions. I am not
receiving compensation for it (other than from Seeking Alpha). I
have no business relationship with any company whose stock is
mentioned in this article.
Disclaimer:
The information contained in this missive represents SCM's
opinions, and should not be construed as personalized or
individualized investment advice. Past performance is no guarantee
of future results. It should not be assumed that investing in any
securities we recommend will or will not be profitable. A list of
all recommendations made by Smead Capital Management within the
past twelve month period is available upon request.
See also
The Miners Have Outperformed Gold And Silver; 3
Stocks That May Outperform Platinum
on seekingalpha.com