There is still considerable downside in U.S. stocks. We could see this through a decline in earnings or multiple contraction, or both. Analysts, though they have reduced their earnings estimates, are still looking for $228 per share on the S&P, or a gain of over 14% in the past 12 months. There is plenty of room for earnings disappointments.
As we know, stocks tend to fall more than the economy (and go up more) because of multiple contraction (and expansion) as well as lower (or higher) earnings. So we can make fairly conservative assumptions of S&P earnings being precisely the same as last year; and a p/e ratio of 17x, which would still be above the median for the decade ending 2016, and that would imply another 25% drop in the S&P.
Stocks Not Undervalued, but Rally Ahead
If we look simply at long-term historical average multiples, then the market would have to drop another 13% on a price-to-earnings basis to return to its long-term average p/e multiple, but 27% on a yield basis. And bear markets typically decline below averages just as in bull markets, they move above averages. None of this implies that such declines are certain, only that they are more than possible.
One thing is certain: the broad market is nowhere near bargain valuations yet. It is important to keep reminding ourselves just how expensive U.S. stocks were entering this year, meaning just how great is the potential decline. I suspect we may see a near-term rally, if only because of sentiment being at such extremes: CFTC positioning is at an all-time low, AAII bull-bear indicators close to lows, and Bank of America’s Bull-Bear indicator sits at zero; it literally can’t get any lower.
The end of June saw very heavy retail selling; coming after the market had already declined, that looked like panic selling and may signal a near-term reversal. Bear market rallies can be short but sharp since one often experiences short-covering. With the consensus calling for an S&P target of 4400, we likely will stop short of that, but it could still be a meaningful rally, which can be used to exit stocks you wish you had sold in January.
Little News Ahead of Earnings
The last couple of weeks have been particularly devoid of news, given the slow summer, the weak market—no company likes to release positive news in a bad market—and earnings around the corner. However, there are a few items to report.
Fortuna Silver Mines Inc. (FSM:NYSE; FVI:TSX; FVI:BVL; F4S:FSE) provided an update on its new Séguéla gold mine in Côte d’Ivoire, with construction on schedule and on budget, a strong achievement in these inflationary times.
Fortuna is well-positioned to fund the construction of the total $173 million mine.
Fortuna is a strong buy.
Wheaton Precious Metals Corp. (WPM:TSX; WPM:NYSE) was named among the Best 50 Corporate Citizens in Canada, recognizing its sustainability leadership.
Wheaton and CEO Randy Smallwood have a long history of genuine concern for environmental and social issues at the mine sites from which they derive their revenues.
Wheaton is a strong buy at this level.
Nestle SA (NESN:VX; NSRGY:OTC), Switzerland topped ranking of the Better Food Index of the U.K.’s largest suppliers for their work in building a fair and sustainable food system.
The company recently boosted its “Health Science” division with the purchase of the Better Health Co.
More than 5% off its mid-June low, we are holding Nestle.
TOP BUYS this week, in addition to the above, include the following, in line with our comment last time about hamburger and filet: Agnico Eagle Mines Ltd. (AEM:TSX; AEM:NYSE); Barrick Gold Corp. (ABX:TSX; GOLD:NYSE); Pan American Silver Corp. (PAAS:TSX; PAAS:NASDAQ); Osisko Gold Royalties Ltd. (OR:TSX; OR:NYSE); Altius Minerals Corp. (ALS:TSX.V); Franco-Nevada Corp. (FNV:TSX; FNV:NYSE); and Orogen Royalties Inc. (OGN:TSX.V).
Questions from Readers
I read of a huge gold discovery in Uganda that will flood the market with gold for years to come. Are you concerned about the effect of this on prices?
This is one of many questions I continue to receive about this supposed huge discovery. Some want to know what I think and others how to invest in it. It’s BS. This is an alleged discovery that would equal more than all the gold ever mined in one fell swoop.
Does not that alone call for skepticism? Something like this would not just come out of nowhere. Even the fraudsters at Bre-X had the good sense to release various (fake) drill hole results and resource estimates before John Felderhof, a mastermind of the scam, started talking about 200 million ounces.
In Uganda, there is no data, no hard facts, just an offhand comment from the country’s president who just happens to have launched a program to induce mining companies to the country.
The Mining Minister or the journalists reporting his comments appear to have confused ore with contained gold, and tonnes with ounces, easy errors for the novice! The crypto cheerleaders also seem to have misread the comments, asserting that this is one gold find, whereas the president indicated he was referring to the total gold in the country. In either case, a healthy nose of rational skepticism is called for.
My broker, InterActive Brokers, sent me a “margin warning” notice, heading “Violation” and threatening to liquidate my account. How can this be? I have cash in my account.
You can stop worrying. We contacted IB and they are simply wrong. IB says they send out this notice whenever the “excess liquidity” in an account is less than 10% of an account’s liquidation value. That of course has nothing to do with being on margin or whether you would ever receive a margin call. And it is certainly not a “violation” of anything, not industry rules nor IB’s account agreement.
In this particular case, the client was not even using margin to buy stocks. Your stocks could all go to zero and you would not receive a margin call. To make matters worse, IB state that they do not send out margin call notices (in legitimate cases) to allow the client to add cash or chose what to sell, before simply “liquidating” positions. The message is extremely poorly written; not only is it headed “violation,” it suggests you send in more cash “to ensure continued compliance.”
Although IB says that they send the “margin warning” as a “courtesy” to clients, it is, on the contrary, a confusing and worrying email for an investor to receive. I did attempt to explain the concept of margin to the rep but to no avail. On a broader basis, this is one more example of the difficulties that can come from using deep-discount, online brokerages.
Though the commissions on U.S. stocks are often zero, there is often little or no customer service, and ill-trained reps who do not understand basic concepts of investing. So much is handled automatically, as in this case (an account with cash and not employing margin should never receive a “margin warning”). In investing as in life, you often get what you pay for.
UPCOMING CONFERENCES I’m excited to be able to see you in person again at several conferences. This month are two of my favorite shows: Freedom Fest in Las Vegas, followed by Rick Rule’s Resource Symposium in Boca Raton. Both shows promise to be very exciting with speakers as diverse as Sen. Rand Paul and John Cleese at the former, and industry legends including Ross Beaty and Randy Smallwood at the latter. After that is Jayant Bhandari’s stimulating Capitalism and Morality conference, in Vancouver, on August 20th. Speakers include Dr. Walker Block and Doug Casey. More information, as well as registration links, can be found on our website. I look forward to seeing you at one of these upcoming conferences.
Originally published July 3, 2022
Adrian Day, London-born and a graduate of the London School of Economics, is the editor of Adrian Day’s Global Analyst. His latest book is "Investing in Resources: How to Profit from the Outsized Potential and Avoid the Risks."
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