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HOW LOW CAN THE MARKET GO?

According to Nouriel Roubini much lower:

If you take a macro approach earnings per share (EPS) of S&P 500 firms will be – quite realistically in 2009 – in the $ 50 to 60 range (I say realistically as some may even argue that in a severe recession they could fall to $40). Then, the question is what the multiple, i.e. the price earnings (P/E) ratio will be on such earnings.  It is realistic to expect that the multiple may fall in the 10 to 12 range in a U-shaped recession.  Then, even in the best scenario (earnings at 60 and P/E at 12) the S&P index would be at 720. If either earnings are closer to 50 or the P/E ratio is lower at 10 then the S&P could fall to 600 (12 x 50 or 10 x 60) or even to 500 (10  x 50). Equivalently the Dow (DJIA) would be at least as low as 7000 and possibly as low as 6000 or 5000. And using a similar logic we argued that global equities – following the US  – had another 20% plus downside risk.

Personally, I don’t care much for pegging the S&P 500 based on PE (I much prefer DCF though than can be somewhat ambiguous as well).  In a nutshell, if the future cash flows of a corporation are likely to be higher in the coming year then that corporation is likely to appreciate in the future.  Value is in the eye of the beholder.  PE ratios are very misleading and in my opinion one of the most misunderstood and widely misused metrics on Wall Street.  The market will move lower as long as investor pychology remains negative and corporations continue to report poor earnings.  Pinning the S&P with some arbitrary number that is composed of ignorant analyst estimates is useless in my opinion.  As of now, both sentiment and earnings are in a steady trend lower – what else do I need to know?

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