The Dow (^DJI) and the S&P 500 (^GSPC) may be at record highs but stock prices are still far from peak. As much as this may sound like some sort of bad financial riddle, the fact of the matter is that by most accounts, stocks are still cheap.
"Whether you look forward, or to the past," explains Sam Stovall, chief equity strategist at S&P Capital IQ, "in general, it says we are trading at a discount," with an approximate 15% discount to long term average price-to-earnings ratios. Of course there have been times of triple-digit PEs and single-digit PEs, but all in, Stovall says, things "still look relatively attractive."
This kind of confidence in the wake of a four and a half month sprint that's come on the heels of a bull market that just marked its 4th year is not without basis, but it is also not without skepticism either, as legions of doubters feel the market is overbought and overdue for a correction.
For Stovall, the path to reaching his just-increased 12-month price target of 1670 for the S&P 500 is a tricky one that requires several layers of analysis and assumption. He explains in the attached video, economic projections for GDP growth in the second half of the year are improving and could ''perhaps hit 2.7% to 3%" this year." But that's just in the U.S.
"It's a big world out there," Stovall argues, pointing to the fact that "about 50% of the revenues in the S&P 500 come from overseas." And with emerging markets pegged to grow more than 5% this year, Stovall predicts companies will target those higher growing countries. Add in corporate cost-cutting plus ongoing share repurchase programs to improve earnings per share, and the would-be drivers start to line up.
"That's how you can rationalize how we end up with rising P/E ratios with a sub-par growth rate here in the States," he explains, noting we will see 15-times projected earnings of $112 a share. "So our belief is that with a lack of alternatives, and with reluctant investors getting back in late to the overall market environment, we still have upside potential."