Goldman: Stock Valuations at "Historically High" Level

Goldman says stocks are pricey; Lululemon illustrates the risk to investors.

Jan 13, 2014 at 7:00PM

Although we don't believe in timing the market or panicking over daily movements, we do like to keep an eye on market changes -- just in case they're material to our investing thesis.

With the earnings season just getting started, this is not the start to the week bulls will have been looking for, as the S&P 500 fell 1.3% on Monday, while the narrower Dow Jones Industrial Average (DJINDICES:^DJI) lost 1.1%.

Whether or not it was tied to today's performance, a presentation/report from David Kostin, Goldman Sachs' chief U.S. equity strategist, for the benefit of the bank's international clients on Monday struck a rather downbeat tone (which is highly unusual for a "sell-side" institution – you're better off looking cheery when you're trying to sell something).

Kostin suggested that the probability of a 10% stock market correction is two-thirds, which sounds a bit alarming until you learn that a 10% pullback occurred every 11 months, on average, during the past century (this fact courtesy of my colleague Morgan Housel).

All the same, things might not be "business as usual," as Kostin went on to observe that, on the basis of their price-to-forward-earnings multiple, stocks have only been more expensive during two previous periods: the technology bubble of 1997-2000 and a four-month stretch a decade ago. Indeed, the market's current multiple – 15.9 on Jan. 8 -- is a bit higher than it was at the peaks of 1987 and 2007 – hardly reassuring benchmarks.

No wonder the report states that "the forward path [of the S&P 500] will depend on profit growth rather than [price-to-earnings] expansion." Earnings growth is the premise for Kostin's forecast that the index can rise 5% this year. (There's that sell-side optimism!)

One stock that hasn't benefited from an expansion in its multiple for some time is former highflier lululemon athletica (NASDAQ:LULU), the purveyor of high-end yoga apparel. In fact, the shares have seen their price-to-earnings multiple cut by more than a third since the end of 2012, when it stood at just over 36. That process continued today, as the company revised lower its guidance for its fourth quarter ending Feb. 2, citing a "meaningful" slowdown in activity in January.

The warning was enough to send the shares down 16.6%. An overreaction? Quite possibly -- after all, the midpoint of the new guidance range for fourth-quarter earnings-per-share, $0.72, is just 9% lower than it was previously. Then again, shareholders are hardly disposed to give the stock the benefit of the doubt after the company has produced a string of negative surprises over the past year.

In light of Goldman's aforementioned report, the case of lululemon athletica illustrates that stocks that sport premium valuations could run the greatest risk of correcting; furthermore, earnings growth may not be enough to prevent or compensate for the downdraft. In the case of Lululemon, analysts expect earnings-per-share to grow 20% in the fiscal year ending Jan. 31, 2015. High-flying "story" stocks such as Twitter, Netflix, or Tesla could be vulnerable to the same phenomenon.

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Fool contributor Alex Dumortier, CFA, has no position in any stocks mentioned; you can follow him on Twitter: @longrunreturns. The Motley Fool recommends lululemon athletica, Netflix, Tesla Motors, and Twitter and owns shares of Netflix and Tesla Motors. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

4 in 5 Americans Are Ignoring Buffett's Warning

Don't be one of them.

Jun 12, 2015 at 5:01PM

Admitting fear is difficult.

So you can imagine how shocked I was to find out Warren Buffett recently told a select number of investors about the cutting-edge technology that's keeping him awake at night.

This past May, The Motley Fool sent 8 of its best stock analysts to Omaha, Nebraska to attend the Berkshire Hathaway annual shareholder meeting. CEO Warren Buffett and Vice Chairman Charlie Munger fielded questions for nearly 6 hours.
The catch was: Attendees weren't allowed to record any of it. No audio. No video. 

Our team of analysts wrote down every single word Buffett and Munger uttered. Over 16,000 words. But only two words stood out to me as I read the detailed transcript of the event: "Real threat."

That's how Buffett responded when asked about this emerging market that is already expected to be worth more than $2 trillion in the U.S. alone. Google has already put some of its best engineers behind the technology powering this trend. 

The amazing thing is, while Buffett may be nervous, the rest of us can invest in this new industry BEFORE the old money realizes what hit them.

KPMG advises we're "on the cusp of revolutionary change" coming much "sooner than you think."

Even one legendary MIT professor had to recant his position that the technology was "beyond the capability of computer science." (He recently confessed to The Wall Street Journal that he's now a believer and amazed "how quickly this technology caught on.")

Yet according to one J.D. Power and Associates survey, only 1 in 5 Americans are even interested in this technology, much less ready to invest in it. Needless to say, you haven't missed your window of opportunity. 

Think about how many amazing technologies you've watched soar to new heights while you kick yourself thinking, "I knew about that technology before everyone was talking about it, but I just sat on my hands." 

Don't let that happen again. This time, it should be your family telling you, "I can't believe you knew about and invested in that technology so early on."

That's why I hope you take just a few minutes to access the exclusive research our team of analysts has put together on this industry and the one stock positioned to capitalize on this major shift.

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David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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