He makes a compelling case of using normalized earnings to value stocks. Otherwise, throw out the peak and trough or outsized gains and losses to focus on the core earnings level. Do you really want to value a stock based on the current weak economy or based on what it would earn if the economy was growing 2-3%? Just like you shouldn't value a stock based on what it earns when the economy is growing at 5%. That isn't sustainable and neither will be any valuation assigned to that growth.
- I believe that stock prices are now so extraordinarily cheap that I would be very surprised that if an investor who bought a diversified portfolio today did not make at least 20% or more on his investment in the next twelve months.
- Right now the "normal" level of earnings, based on trend analysis of past 15 years of earnings on the S&P 500 Index is $92 a share.
- If the average 15 price-earnings ratio applied to these $92 per share normalized earnings, the S&P 500 Index would be selling at 1380, which is almost 50% above its current level.
- The last time the market was at ten times earnings or less was in the late 1970s and early 1980s.