Price and Earnings.

So, today I thought we would get back to the basics, and build on our understanding of some of the underlying factors that are powering this market. Factors that we may have lost in the headlines. The very first thing that we look at in investing in any stock, is their earnings. Their future profits, which will pass through to those of us who own that stock in the form of dividends or capital appreciation. So earnings are ultimately, I believe, the key to understanding the long range price action of the stocks we own, and collectively of the stock market.

The market is making me dizzy. 1,000 point days left and right.

Volatility like we haven't seen before. And of course, it is the price action of securities that is making all the headlines.

This makes sense, I suppose, because we are living through historic times in the Stock Market.

But this can also be a confusing time for investors. All too often it can look like the moves in the market are capricious. Not really having any basis in reality. And I admit that there is a lot going on that is purely emotional, or purely manipulative.

So, today I thought we would get back to the basics, and build on our understanding of some of the underlying factors that are powering this market. Factors that we may have lost in the headlines.

The very first thing that we look at in investing in any stock, is their earnings. Their future profits, which will pass through to those of us who own that stock in the form of dividends or capital appreciation.

So earnings are the ultimate way, I believe, the key to understanding the long-range price action of the stocks we own, and collectively of the stock market.

Let me give you an example. Back in 1928, nearly a century ago, US Corporate Profits topped the $2 Trillion annually for the very first time. And stocks reflected this, with the market hitting also hitting all-time highs.

But just 3 years later, in the depth of the Great Depression, earnings had fallen nearly 90% to just $260 billion. And stocks reflected this also, having fallen nearly a like amount.

My point is that stock price and earnings are inextricably linked. And if the market doesn't always reflect that in the short term, eventually, the two come into phase.

So let's tale a close look at how these two factors, earnings, and price have done. Well, on the earnings side not so well. Back in the third quarter of 2010 earnings came in at 1.75 Trillion. And in the latest reported quarter, the third quarter of 2019, 10 years later, earnings came in at 1.70 trillion.

That's 1.73 trillion in 2010. 1.70 trillion nearly 10 years later in 2019. In other words earnings are absolutely flat. There has been no growth in profits for 10 long years.

So logic would tell us, that the market would be flat also. And of course, as any careful observer of stocks will attest, the market has tripled in that time. Going from less than 1,100 on the S&P 500 to over 3,300 in February.

In a decade: prices triple, while earnings stayed the same. Earnings flat-lined, while prices sky-rocketed.

In short, using our simple model, we are watching perhaps the biggest bubble of all time.

Investors have  paid more and more, for exactly the same level of corporate earnings that they had made a decade before.

I have no doubt that eventually these two factors earnings and corporate profits will reach parity. Unfortunately, it will be a very very painful adjustment. As the two financial components: stock prices and corporate earnings come into equilibrium.

Tags:
Start listening to Chinese Supply Lines.
5:48
Start listening to Chinese Supply Lines.
5:48