P/E

After weathering a big correction in March and early April, Tech stocks have recently acted pretty well considering the dismal earnings and worsening outlook.

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Tech stocks struggled again as a torrent of disappointing news showered the group in May.

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Tech stocks came roaring back in April (Info Tech sector up 22%), but don’t expect another parabolic rise!

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S&P 500 tech weighting has plunged 43% from February 2000’s peak of 34%. Now at 19%, but expect it may have further to fall in 2001.

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The underlying decline in valuations and tech stock weightings in the cap weighted market indices probably has further to go in 2001.

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Since February, valuations have plummeted 37%, about half way back to median levels. However, relative P/E ratios paint a different picture.

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This was a year where the super cap growth stocks, especially the tech stocks, blew away most active managers. Our Technology...Big Ten sector (10 largest caps) was up 75% for the year. The high P/E tier of the Royal Blue Index was up an unprecedented 57%.

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Using history as a guide, today’s low inflation environment is no justification for the current P/E.

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Smaller can managers are expected to see better times ahead. We predict that the next bull market will be led by small cap stocks. Historically, small caps now look fairly priced.

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Small caps cheap relative to big caps, but neither is cheap on absolute basis...Unweighted to weighted P/E comparison at record discount.

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Some clients suggested that our use of normalized earnings distorted last month’s study of P/E ratios in low inflation environments. Using a three year centered average of earnings produces results quite similar to last month’s study.

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Low Inflation and the justification of expanded P/E ratios. Low inflation does justify expanded P/E ratios...However, how much of an expansion is warranted?

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Over and over we hear and read that today’s mutual fund investors are different. They are truly long term investors saving for retirement.

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Looking out ten years, can today’s overvalued stock market outperform 7% Treasury zeros?

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Andy Engel’s new “broad” Technology Composite, an all-inclusive representative tech group and Jim Floyd’s “Super Tech” sector, comprised of internet, communications and networking companies.

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Big cap bias in market may be driven by increased enthusiasm for index funds. S&P becoming difficult to beat, P/E ratios of Royal Blue tiers compressing.

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Fat profit margins are stimulating competition and capacity which will ultimately bring margins (and tech stocks) down. Technology fragmenting, but the end is not quite yet in sight.

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“Tech” manias revisited: comparing P/E ratios and Price/Sales ratios.

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Our studies suggest we still have some further regression before returning to median returns. Looking out to a 3-5 year horizon, we expect equity returns to lag historical averages as returns regress further toward normal long term (10 year) performance.

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As we maintain our "tactically bullish" attitude toward equities, we continue to search for further signs that this market is not as overvalued as it appears.

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