Random Thoughts

The New Year got off to an inauspicious start, with the S&P 500 recording a 2.5% decline in price on the second trading day, followed by a 3.4% rise in the third.

In 2018, the 500 rose or fell by 1% or more 64 times, versus the average of 51 times since 1950. Is 2019 setting itself up to be even more volatile than 2018? Not according to history. In the past 68 years, the S&P 500 recorded a median 28% reduction in the count of 1% daily moves in years following annual price declines. Also, in the 22 times since WWII that the S&P 500 posted negative calendar-year returns, back-to-back declines were recorded only three times (during the bear markets of 1973-74 and 2000-02).

We think the worst is likely behind us, primarily because of the attractive market valuation reached during the recent selloff. Indeed, the S&P 500 recorded a low P/E-to-NTM (next 12 months) EPS of 14.1X on Christmas Eve 2018, according to S&P Capital IQ consensus estimates, which came close to the average 13.7X multiple low reached during the 10 prior pullbacks and corrections since this bull market began in 2009.

What’s more, the rolling 52-week relative strength of the S&P 500’s price to its NTM P/E (a measure of whether share prices are placing a premium or discount on EPS growth estimates) recently dropped to between one and two standard deviations below its mean over the past 20 years, surpassing all prior low readings since this bull market began. So unless Wall Street loses all faith in forward EPS growth, we think prices have likely seen their lows for this deep correction.