Fellow blogger Fg has an interesting post suggesting that the carnage in the markets is just beginning. He makes a number of valid points including high P/E ratios and low dividend yields. The markets are definitely facing head-winds including slowing earnings growth, high energy prices, higher short-term interest rates, flattening yield curve etc.
However, there is a bullish case to be made for the markets. When there is plenty of worry about the markets, as it is now, it probably is a good time to invest. As Donald Luskin, points out in his column, by some measures the market is very cheap. Valuations don’t exist in a vacuum. The potential returns from an investment should always be compared to something else. The forward earnings yield on the S&P 500 is 6.7% compared to about 4.26% for 10-year treasuries for a spread of more than 200 bps. Also, earnings are forecast to rise a further 10.6% in 2006.
As recently as March, the markets were worried about oil prices (with some forecasts for $100 oil) and higher inflation. Now, the market is worrying that sliding oil prices are a sign of slowing growth! Mr. Market is manic-depressive as always.
I don’t know what is next for the markets. I don’t care either. I am in the markets for the long haul and I will invest some cash as soon as I have some available. I will slowly converge to my target asset allocation and I am betting that is the correct move whatever happens in the markets.