The Daily Workshop Report
by Robert Sheard (TMF Sheard)

LEXINGTON, KY. (June 25, 1997) -- Is the market overvalued? Are we in line for another 1987-like crash? These and similar questions are ubiquitous when the market's setting new record highs, naturally, so it may prove useful to look at some of the relevant statistics to see whatever it is we can see in them.

Let's start with a simple valuation model with the Dow. According to First Call, the current year combined earnings estimate for the Dow Jones Industrial Average is $425.99. At the Dow's current level, that represents a market multiple of roughly 18.1 times this year's earnings. The consensus estimate for next year's earnings is $491.78, which puts us at 15.7 times next year's earnings.

While this does put us in the range of PE ratios before the crash of 1987, and dividend yields are also at a very low historical level, flirting with low levels under 2%, there's more to the picture. A couple of major differences are important to the story.

First compare the yields on the 30-year bond. At the peak in 1987, the long bond had a yield of more than 9%. Today's yield is below 7%, a significant gap in that barometer. Second, compare the short interest between 1987 and today. Short interest on the New York Stock Exchange at the peak in 1987 ran about three days (meaning it would take three days of average trading volume to cover all of the open short sales). Today it would take seven days of average volume to cover the open short interest on the New York Stock Exchange. With such a large short position open, there's a pretty fair cushion underneath the Dow when all those shorts are eventually covered.

Finally, consider the low inflation rate, which combined with low interest rates, places the stock market in a pretty position. Yes, there's no denying that the market's not exactly at bargain levels today. How could it be after gains like we've seen since the end of 1994? But any one statistic in isolation (a PE ratio or a dividend yield) isn't enough to base a dire prediction on. And of course for Fools, market predictions don't matter much anyway. Our principle belief is that one should stay fully invested at all times and simply ignore Mr. Market. (Even though I don't act on such matters, though, I still take an interest in watching them. It's a disease. Quick, call Geraldo!)

Monthly Growth Screens
(Jan. 3 to present)
35.63%  Relative Strength  
18.84%  S&P 500 Index  
13.13%  Low Price/Sales  
3.15%  Unemotional Growth  
0.56%  Investing for Growth  
-5.19%  YPEG Potential  
-9.47%  EPS Plus RS  
-19.87%  Formula 90  

Annual Value Screens
(Jan. 1 to present)
19.26%  Dow Jones Ind Avg  
16.76%  Dogs of the Dow  
12.83%  Beating the S&P  
10.68%  Unemotional Value  
10.68%  Beating the Dow  
8.62%  Dow Combo  
3.57%  Foolish Four