Nothing's Working for Stocks Except the Math

There’s really only one sure thing in markets, and that is the longer a rout in stocks goes on, the more esoteric the analysis put out by Wall Street to explain the moves and guess when the carnage may end. Examples range from the relationship between bond yields and dividends to something euphemistically called “technical analysis” that attempts to divine future prices from squiggly lines on a chart.

None of it seems to work, because nothing can accurately predict human fear and emotion. As economist John Maynard Keynes said: “The market can remain irrational much longer than I can remain solvent.” So instead of trying to read too much into the S&P 500 Index’s 4.94% rebound on Tuesday from its gut-wrenching 7.60% drop the day before, it’s best to understand where markets are valued through the simplest of math. As of the end of last week, the benchmark traded at about 18.3 times earnings based on a level of 2,972. (It ended Tuesday at 2,882.23.) That implies corporate earnings of $153 per share for this year, well below the $172 estimated by Wall Street, according to BNY Mellon strategist John Velis. Now, nobody believes those forecasts — made in calmer times — will be achieved, but flat earnings growth is probably a baseline assumption at this point. Such a scenario translates into a price-to-earnings ratio of 17.5 times and a level of just under 2,900 for the S&P 500, Velis wrote in a recent research note. For the pessimists who might expect earnings to plunge 25% and P/E ratios to collapse to an apocalyptic 12.5 times, the S&P 500 would fall just below 1,450 for a decline of about 50%. So, the market could get better or it could get worse — that’s just the way it is.