Since Dow has broken 15,000, are stocks still worth buying?

BY BERNARD CONDON Modified: May 4, 2013 at 2:07 am •  Published: May 5, 2013
Advertisement
;

— Are stocks worth buying now?

With the Dow Jones industrial average breaking through 15,000, it's natural to worry that stocks have gone up too far. But higher-priced stocks are not necessarily overpriced. They may still be a good deal if corporate earnings are rising fast, and you think that trend is likely to continue.

A solid April jobs report Friday is a sign the economy is strengthening. That could lead to higher profits. What's more, many of the traditional threats to bull markets — rising inflation and interest rates, a possible recession — don't seem likely soon.

That said, stocks are no bargain. Buy them only if you're willing to ride the inevitable ups and downs and hold on for a while.

These are some forces that could push stocks higher in coming months:

• Higher earnings. Investors cheered when employers added 165,000 jobs in April and unemployment fell to a four-year low. More people working means more money flowing into the economy. That could help companies extend a remarkable streak of ever-higher profits.

Companies in the Standard & Poor's 500 index posted a record $102.83 earnings per share last year, or 17 percent higher than in 2007, when stocks were last near this level before the financial crisis.

How do stock prices compare with those earnings? To answer that, experts look at what's called price-earnings ratios, or P/Es. Low P/Es signal that stocks are cheap relative to a company's earnings; high ones signal they are expensive.

P/Es are calculated by dividing the price of each share by annual earnings per share. So a $100 stock of a company that earns $10 per share trades at 10 times. The lower the P/E, the cheaper the stock.

There are various P/Es. Some use past earnings and other future earnings. They give a mixed picture but together suggest that stocks are reasonably priced.

If you look at earnings from the past year, the S&P 500 is trading at 15.6. That is slightly lower, or cheaper, than the 17.2 average for this P/E since World War II, according to S&P Capital IQ.

Using forecast earnings for the next 12 months, you get a P/E of 14.2, the same as the average over 10 years, according to FactSet, a provider of financial data.

Another measure shows stocks are somewhat expensive, however.

Some investors think you should look at annual earnings averaged over 10 years instead of just one year. This eliminates any surge or fall due to changes in the business cycle. Dividing stock prices by a 10-year average of earnings yields a P/E of 23 times. That is higher, or more expensive, than the average 18.3 since World War II.

A word of warning: You shouldn't invest just by looking at P/Es. They are more guide than gospel. There have been long periods when stocks traded at lower or higher P/Es than the averages.

• Economic expansion. With Friday's job report, the odds for continued expansion got better. The economy has created an average of 208,000 jobs a month from November through April, above the 138,000 average for the previous six months.

Continue reading this story on the...


Trending Now


AROUND THE WEB

  1. 1
    Tulsans flock to official groundbreaking for A Gathering Place
  2. 2
    VIDEO: FSU's Jameis Winston sent to locker room by Jimbo Fisher after dressing out for Clemson game
  3. 3
    Big 12 football: K-State's Snyder among nation's most underrated coaches in ESPN poll
  4. 4
    Texas A&M fan wearing what appears to be a chain mail jersey
  5. 5
    Satanic black mass seeks to free people from influence of God, organizer says
+ show more