Let’s step back for
a moment to evaluate the financial and economic conditions prior to the
terrorist attack. After we contemplate the environment we will have the quiz.
largest financial bubble in history burst 18 months earlier and $6-7 trillion
of wealth was wiped out in the U.S.($11-12 trillion worldwide)
for US Corporations were declining sharply. Reported earnings for the S&P
500 ended the year 2000 at $50 per share. Just before the attack they were
revised down to an estimate of $35 per share for 2001 and still declining.
current account trade deficit was running at record levels of over $400
billion. Because of the deficit there were large foreign holdings of US
dollars. Most of those dollars were invested in the U.S. stock and bond markets.
If they decide to sell, it will drive the dollar lower, which would complicate
the Fed’s easing policy.
participation in the stock market has never been greater. Of the $4 trillion in
equity mutual funds, $3.75 trillion came in through purchases or appreciation
during the 1990’s capping off with the climactic purchase of $130 billion in
the first quarter of 2000 (by far the largest quarterly purchase ever of equity
mutual funds). This enabled mutual fund managers to add to positions in Cisco,
Oracle, Lucent, Priceline, Amazon, Internet Capital Group, and CMGI at the worst possible time.
and business confidence were collapsing based upon all the different services
that measure them.
levels in the corporate and consumer sector were at record highs by a wide margin.
layoff announcements were unprecedented.
second largest economy in the world, Japan, was mired in a recession and Europe
and South America (especially Argentina) were following them. The U.S. was also
probably already in a recession.
Now the Quiz--With all of the above conditions---before
the terrorist attack---
What was the stock market valuation level (based on P/E multiples)?
than every other market peak in history, including 1929, 1972, and 1987?
the norm of the past 75 years?
the levels that existed during the bottom of bear markets (or P/E’s at market
The answer is # 1. Believe it or not. We sent this fact to Ripley and he didn't believe it! Why
would the market sell at more than normal valuations under these conditions?
The terrorist attack makes these conditions a lot worse, so you would surely
think the stock market will eventually fall to at least normal valuation
levels. This level, according to our Limbo, Limbo model (on our home page)would bring the S&P
500 to no more than 700, a full 27% below today's close. (See attachment below)