Current Atlantic Monthly magazine presents a feature article purporting to show that the market is currently severely undervalued, because P/E type measurements are no longer valid, if they ever were, and the authors introduce a new way of valuing stocks, the "Perfectly Reasonable Price (PRP)" model. By the PRP model, the market is severely undervalued and a (historic, one-time-only) rise of Dow to 36,000 is expected over next few years. The authors suggest that though all the experts wring their hands over the "tulipmania" and "irrational exuberance" of the current market, ordinarly people have somehow intuited the PRP model and are confidently investing accordingly. Thus a crash is unlikely, in the authors' view.

-- Count Vronsky (vronsky@anna.com), September 07, 1999

Answers

Yeah, I heard about something like that a while back on CNBC.

I think their theory is based on the fact that somehow they believe that the market is saying that there is much less downside risk in equities than what the analysts think and use in their investment models.

They use some other model rather than the traditional ones that use the T-Bill rate as a "risk-free" return. In other words, they said that instead of a risk-free return being the 4 1/2 or 5% you'd get from T-Bills, the market should be able to give you, say, 10% risk- free and guaranteed. Therefore, since there is so much less risk in equities than anyone thought, your stock should be worth more.

-- Clyde (clydeblalock@hotmail.com), September 07, 1999.

Count,

That piece about the French Resistance fighter was so beautiful, I ordered his biography from B&N. I see he has another book out this year, too--essays. Thanks so much for the lead.

Funny about the stock market theory. It's absolutely 1929!

-- Mara Wayne (MaraWAyne@aol.com), September 07, 1999.

Earnings are no longer valid in stock valuations....Give me a break...

-- Downstreamer (downstream@bigfoot.com), September 07, 1999.

>>... ordinary people have somehow intuited the PRP model and are confidently investing accordingly. <<

Ordinary people do not understand money at all, except that they earn so much, spend so much and want to have more. They have a middling weak grasp of compound interest, but their financial sophistication stops there. If you show an ordinary person an annual report from a corporation they stare at it with incomprehension and a vague uneasiness that there is something important in all those numbers that they *should* know more about, but don't. This includes smart people as well as dumb clucks.

The idea that ordinary people have intuited some kind of pricing model for equities is a hoot. The ordinary investor in a 401K read somewhere (or were told) that you make more money investing in stocks than in other things and their recent experience has reinforced this belief. But they don't know the first d*mn thing about the size of the risk they are taking. This casual (or more correctly -- ignorant) attitude toward risk has distorted the market.

-- Brian McLaughlin (brianm@ims.com), September 07, 1999.

Count: I saw that issue and picked one up, thinking it will be a great collectors item some day!

-- Claire (prettyfunnyarticle@aol.com), September 07, 1999.

This crap is beyond stupid. At current P/E's of 30+ (as opposed to next year's outrageously wild guesses), stocks are returning about 3% on investment. For the market cap to rise you have to have one of two -- only two -- events happen: (1) Earnings must grow, or (2) Euphoria must grow. If earnings grow 15% per year (sure, what the heck) then the market cap can grow 15% without changing the P/E. However, the minute that earnings growth slows -- the second that earnings growth slows -- this becomes one very risky investment indeed. At one point I did the math on Ebay. If Ebay's earnings double every year, year- after-year, then they will attain fair valuation (approx P/E of 100) in 2007 (assuming the price per share doesn't budge!) Nobody is going to buy and hold this refuse.

Wall St. is being run by a bunch of snot-nosed kids who think (a) stocks will go up tomorrow 'cause they went up today, (b) the blip of 1987 was a crash, (c) there is such a thing as a new paradigm, and (d) Santa Claus is real. BY DEFINITION, a market top represents the point of maximum euphoria. Somebody pass me the oxygen tank.

-- Dave (aaa@aaa.com), September 07, 1999.

Yes, I agree with the points here also. The basic missing element in the Atlantic analysis is, as usual, psychology. Since even the authors would have to agree that the current investment frenzy can't be based on a full and rational understanding of the "correct" valuation, i.e. PRP, it must be based on something else. So traders are doing the "right" thing (investing heavily) for the "wrong" reasons (any reason short of fully rational appreciation of PRP, which we all agree few current investors possess, even if the PRP theory is correct). In short, though "correct" in the authors' view, current buying/trading frenzy is nevertheless irrational behavior. This same irrationality could therefore just as easily lead to a panic and crash.

-- Count Vronsky (vronsky@anna.com), September 07, 1999.

Don't the phrases "net profit" and "bottom line" (as in the last line of a balance statement) mean anything? What wierd planet am I on? Since when can a company truly be worth more than its net?

-- R (riversoma@aol.com), September 07, 1999.

Hey, sounds like they've actually repealed the business cycle. Cool!

In the deathless words of Scooby-Doo: Ruh-roh!

-- Mac (sneak@lurk.hid), September 07, 1999.

Next time you are in your broker's office, look around. the folks in the corner offices, with the teak desks and the watered silk wall coverings, the hand painted ties (or the collarless silk shirts) and silk suits are younger than some of my ties!!!!! (and much less honest. My ties at least teestify to my eating habits) To them, 1987 was pre-history, the Nixon or Eisenhower years are about as recent as the bronze age, and about as relevant. If you are old enough to be your broker's parent, get a different broker. Find one that understands that the law of gravityu has NOT been repealed, nor have the cycle theories of markets.

Chuck

-- Chuck, a night driver (rienzoo@en.com), September 07, 1999.

Count Vronsky:

Stock poppycock is always generated during a mania.

-- Randolph (dinosaur@williams-net.com), September 07, 1999.

The DOW has absolutely reached stratospheric levels, and is due for a correction. The market is rising because foreign capital is running from depressions, deflations, and chaos. The money is "fleeing" to a safe haven. At least...with no evidence..that is one plausible reason we are seeing such a rise...When the market crashes, and the flight of capital sees that the ride is over...then the collapse will be on the order of 80% or more. That will take about 3 years....and the trigger for this event might well be Y2K...yet I still maintain...that the month of October will do it.....36,000? let's see...the inverse of that is....

-- Rick Shade (Rickstershade@aol.com), September 07, 1999.

As long as money flows into the market, it will rise. When the tide shifts, the money will go elsewhere. The brokers will look like beached whales and their followers, dead fish. All of us will suffer.

-- Bill (y2khippo@yahoo.com), September 07, 1999.

Well, they ALMOST got it right...only missed by a decimal point. 3,600 could be about right...

-- Mad Monk (madmonk@hawaiian.net), September 08, 1999.

I see you are a prophetic monk.

Listen to the guy who gets it on y2k.......Yardeni. He just came out and stated that stocks are wildly overvalued.

Get liquid......and I don't mean Jim Beam.

-- BB (peace2u@bellatlantic.net), September 08, 1999.