Don't Sell Yet

2/13/2017


Valuations are rich; investor sentiment is unusually optimistic; and the broad market has made little headway since early December.

Does that mean it's time to sell?

Not yet, for our money. Our buy lists have more than 96% in stocks. We think you should raise cash when the answer to at least one of the following questions is yes.

Is the primary trend bearish?

The Dow Industrials and Dow Transports reached all-time highs on Jan. 26. The S&P 1500 advance-decline line, a running total of daily advancing minus declining stocks, is about two good days away from its Jan. 25 all-time high. 

Market pullbacks of 5% to 10% can occur at any time, and conditions do seem ripe for a correction of some sort. But, with the Dow Theory in the bullish camp, we're inclined to view such a dip as a correction in a bull market. We'll worry more if the averages fail to rebound to new highs after a correction.

Is the stock market so expensive and investor sentiment so optimistic that we are probably in a bubble?

Even if the averages have not turned down, selling into a bubble may be prudent. Every bear market begins with the market at significant highs, and the first stage of a post-bubble downturn is typically brutal.

Valuations are extreme but do not compare to those reached in 1929 or the tech bubble of 2000. The median stock in the broad S&P 1500 Index trades at more than 21 times trailing 12-month earnings — 18% above the norm since 1994, and higher than 97% of month-ends since 1994. Only 29% of S&P 1500 stocks have P/Es below 18, versus the norm of 45% since 1994.

However, relative to current inflation and interest rates, U.S. stocks look fairly reasonable. If you think the rebound in corporate earnings growth can be sustained over the next few years without triggering a jump in inflation and bond yields, you can make a case that stocks are a much better long-term bet than bonds or cash.

• Has it become impossible to build a portfolio of reasonably valued growers?

As the tables below show, it's still possible to build such a portfolio — provided you are willing to overweight some areas of the stock market. This will increase your risk of underperforming the market averages when reasonably valued growers are out of favor, as was the case for most of 2016. But our quantitatively driven, growth-at-a-good price approach has handily outperformed since we began using Quadrix in 2000.

Our sector exposures
 
Our Buys And
-- Long-Term Buys --
% Of
S&P 500
Index
Average Overall
Score Of S&P 1500
Stocks In Sector
Sector
Number
Percentage
(%)
Consumer discretionary
9
26
12
68
Technology
9
26
21
58
Health care
5
14
14
58
Industrials
5
14
10
59
Financials
4
11
15
72
Consumer staples
2
6
9
52
Energy
1
3
7
26
Materials
0
0
3
52
Real estate
0
0
3
43
Telecom
0
0
2
50
Utilities
0
0
3
52

 

Our stocks versus the S&P 1500
Our Buys And
--- Long-Term Buys ---
--- S&P 1500 Stocks ---
Average
Median
Average
Median
Quadrix Overall
88
89
58
59
Quadrix Momentum
68
67
51
51
Quadrix Value
77
77
56
56
Trailing P/E ratio
19
18
24
21
P/E on current-year estimate
15
16
22
20
Long-term expected EPS growth (%)
12
12
11
10
Trailing 12-month EPS change (%)
19
18
5
6

 

Our stocks ranked versus all U.S. stocks
Percentile ranks are versus our research universe; higher is better.
Our Buys And
-- Long-Term Buys --
Average
Median
EPS change last qtr. (%)
27
13
Percentile rank
57
54
Sales change last qtr. (%) 
13
10
Percentile rank
66
66
Trailing P/E ratio
19
18
Percentile rank
61
64
P/E on current-yr. EPS
15
16
Percentile rank
71
72
P/E on next-yr. EPS
14
14
Percentile rank
71
74
Earnings predictability
0.9
0.8
Percentile rank
84
92
5-year dividend growth (%)
30
20
Percentile rank
83
83
5-year sales growth (%)
82
61
Percentile rank
76
79
Return on equity (%)
21
17
Percentile rank
81
83
Stock-market value ($ bil.)
79
20
Percentile rank
92
91

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