Bull or Bear? The Market’s Next Move

All year long, the stock market has been batting its big green eyes at the world, drawing more and more people into its promising embrace. This is nothing new. For decades, North America's most alluring bazaar for capitalism has been making multitudes of steadfast investors wealthy, while causing heartbreak and loss for many others -- often, because of emotional decisions and the use of leverage.

But for all the headline-grabbing drama, when you get down to it, the stock market is simply an auction house for partial ownership in companies. As an owner, you share in the profits of a business through dividends and appreciation. Sometimes, the crowd is willing to bid higher and higher for a stake in these benefits, and sometimes, buyers are few and far between.

Pricing a bull market
Lately, buyers surround us, and we're witnessing history repeat itself. New market highs are earned as the population, businesses, and earnings grow. New highs can go on for years, as they did in the 1980s and '90s. Other times, the market hits a peak. and then doesn't touch it again for a decade or longer, as was the case after 2000. Where this fate is concerned, the stock market's price-to-earnings multiple is ultimately the largest determining factor.

So, where do we stand on the market's P/E today?

  • Recent S&P 500 Level: 1,667
  • S&P 500's current P/E on trailing normalized earnings: 18.6
  • Average P/E at the end of a bull market: 19.7
  • Five-decade (1949-2009) average P/E: 16.5
  • Average length of a bull market since 1962: Four years
  • Age of this bull market: Four years, two months

Source for P/E: S&P Capital IQ; average data from Bloomberg; bull-market length data from Birinyi Data.

The numbers suggest that this bull market is nearing its end. Earnings growth, or the lack of it, will almost surely determine its short-term fate.

Analysts are notoriously awful at predicting earnings busts, never seeing them ahead of time. Currently, they expect the S&P 500 in aggregate to achieve $108.52 in normalized earnings per share in 2013, up 4.6% from last year (with all the growth in the second half). Next year, they're gunning for $116.72 in earnings per share, up 7.6% from this year. 

Let's put some multiples on this. With the S&P 500 at 1,667, we have:

  • S&P 500 forward P/E on 2013 estimates: 15.4
  • S&P 500 forward P/E on 2014 estimates: 14.3

If earnings growth resumes in the second half of this year and accelerates in 2014, as predicted, then this bull market could be with us at least a few more years. In fact, although the S&P 500 trades at 18.6 times trailing earnings right now, it would need to increase substantially -- by 37% -- to reach the average bull market's expiration price of 19.7 times trailing earnings by the end of 2014 -- if earnings do indeed grow. 

But that's the big "if."

Over the past two quarters, earnings growth has been virtually nonexistent, and the average S&P 500 company's revenue actually ticked lower year over year for the quarter that just ended. In other words, resurgence in earnings growth is far from a slam dunk and, if the second half of this year disappoints, stocks will probably give back ground. After months of welcoming investors, the market could get cantankerous for the first time in a long time.

What do we do? We do what we do.
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As of April 30, Pro had earned 91.6% of the market's gains since our service's inception in 2008, while our real-money portfolio was only about 60% net long at the end of 2009, and about 70% net long on average since then. So, as an absolute returns portfolio carrying much lower-than-average risk, we still earned outsized returns of 10.9% annualized. The average hedge fund is nowhere close.

So, what does Motley Fool PRO do from here? We stick to our long/short, absolute returns mission. We buy great companies at good prices -- companies that should grow value over the next few years whatever the market does. We use options for income and returns whether the market goes down, heads up, or runs sideways. And we short and hedge to profit on falling prices. In other words, whatever the market does, we have some positions making us money, adding to our returns.

This is not your average market recovery, after all. So, when people say, "This can't go on," or, "It's all Fed-driven," or, "This isn't real," we know we can't afford to take such a one-sided stance. And neither should you. At Motley Fool PRO, we know there are two sides to the coin, and we want to make money whether the coin comes up heads (bull market), or tails (bear market).

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Read/Post Comments (4) | Recommend This Article (4)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On May 25, 2013, at 11:49 AM, bigcel wrote:

    I am a newbee at stock investing, I opened an acount in March of this year, and following the M. fooles advice, I have earned $368.00 on my $3000.00 investments. I really don't know how to advance making more profits ? Or to make a better portfolio ,I am trying like hell to learn more, but being new at this, I'm having a rough time. I just added an other $1000.00 to my account with ( Charles Schwab ).

    I am not a day trader, i'm investing on long hold stocks. Every time I try to find out what stocks that the the rich Politicians have for long term that make them money on top of money over and over again.I hit a DEAD END! I want to invest in stocks that pay LARGE DIVIDENDS so I cane make more to maybe reinvest or just hae fun in my lonely divorced life! Like they say(she got the money and I got the shaft).

    Any ideas???? How I can better invest and get bigger returns?? PLEASE HELP

  • Report this Comment On May 25, 2013, at 2:23 PM, ajl9 wrote:

    Nice job BigCel! More than 10% in just a few months. I think you should read the book Invest to Win by Gordon Scott & Toni Turner. While the Fools have good advice, I am not sure how many of their paid services would provide a good return on investment for a 4k account. Any of the option services would require a much larger account since each option contract = 100 shares. So, many of the trades cannot be made with your account size. I tried Motley Fool Pro with a 30k account and could not take many of the trades and found the $3k a year too expensive (10% of my account) so I now have the stock advisor. Even a $100 a year service will eat into your profits. The book I suggested is under $20 ($11 at Amazon) and may help you get to the next level.

    A word of caution - investors who feel the need to make more, often make financial decisions they regret. If the market remains bullish, you are on target for a very profitable year.

    Good luck!

  • Report this Comment On May 28, 2013, at 11:11 AM, TMFFischer wrote:

    bigcel,

    I'll add that you need to continue to think long term and keep adding to your account (your savings) as regularly as you can -- as you are doing (Congratulations!. Own strong companies at reasonable prices, or own a market index (SPY or IWM or both). Or, try Motley Fool Stock Advisor which is inexpensive and offers great stock ideas. It has a long successful track record. And then just let time and savings work for you the coming years. I assume you're young. Once you have much more in your account, you can assume more strategies (long/short/options) if you like. That's what Motley Fool Pro and MF Options are about. But you should build up beyond $4,000 the coming years first. Start with stocks to compound your long-term savings. Once you have more assets, add strategies for long/short protection and income with options.

    Stock Advisor truly is a great place to start.

    Best,

    Jeff

  • Report this Comment On June 06, 2013, at 12:18 AM, RumbachStock wrote:

    Mr. Fischer, one of the first steps to becoming a good investor is learning that it is unwise to attempt to forecast the direction of the market. Motley Fool, you sound stupid when you send emails out about the "next big industry!" Warren Buffett did not make his money by looking for the "next big industry!" but by taking a thoughtful, conservative approach laid out by Ben Graham. I suggest you do the same.

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