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Sound Advice: December 23, 2020

The Stock Market’s Too High . . . and it’s going higher.

Over the many years I’ve been a stock analyst and money manager, I have periodically heard the words of the song that never ends: “The stock market is too high.” The first time I heard it was back in the 1970s, when the Dow Jones Industrial Average was meandering through a 15-year channel in which the high-water mark of 1,000 seemed to be an impenetrable peak. 

Then in 1982, the Dow finally managed to break through and continued to rise almost nonstop until October 19, 1987.  That was the day of the Great Crash: The averages dropped more than 22% in one day.  Even so, by the end of 1989, only a bit more than two years later, Dow had recovered all of that loss and added another 500 points, rising to 2,753.20.  As of this writing, it stands at 30,216.45, a gain of approximately 1,000% in 31 years.

Are stocks undervalued, fairly valued or overvalued?  That depends on which stocks you are looking at.  Typically, the faster companies grow, the more investors will pay for their shares.  So it comes as no surprise that mega tech companies such as Apple, Amazon, Facebook, Microsoft, Netflix, and Google all have high valuations.  The hitch is that these companies account for a disproportionately large share of the leading indexes, which makes the indexes look richly valued.

It might be more helpful to view the indexes in two other ways.  One would be an evaluation of the companies included on an equal-weighted basis.  Such an appraisal would still yield a relatively rich valuation, but one that would not set off an alarm. 

The other would be an evaluation that excluded the companies noted above.  These are the companies that felt the full brunt of the pandemic.  Their current-year profits will be about 15% to 20% lower than those of 2019.

The good news is that the new year may bring a full rebound to the earnings level of 2019 and a further impressive advance may follow in 2022.

Either way, the smart bet is that the Dow will hit 50,000 before it goes to zero. 

N. Russell Wayne, CFP

Questions?  Please contact me at nrwayne@soundasset.com

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