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Strategies & Market Trends : Zeev's Turnips - No Politics
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To: Steve Lee who started this subject2/2/2002 8:45:23 PM
From: exp  Read Replies (5) of 99280
 
Fair Value of NAZ: 1619 (calculations below)
(1) Fair Value of SPX P/E = 1/(Ten year bond yield)= 1/.05 = 20
(using the Fed model)
(2) Fair Value of SPX= Fair value of SPX P/E x 2002 SPX eps = 20 x 53.97 = 1,079
(using $53.97 2002 SPX eps estimate by I/B/E/S Intnl; eps=earnings per share)
(3) Fair Value of NAZ = Fair Value of SPX x 1.5
= 1,079 x 1.5 = 1619
(using the commonly used 50% NAZ P/E premium over SPX P/E due to faster eps growth for tech companies)
Arguments FOR HIGHER Fair Value of NAZ:
(a) 2002 is the year of emerging from a recession so the eps are still depressed, therefore 2003 eps may be a better gauge of "normal" tech eps
(b) many NDX and other NAZ companies are still at an early stage of growth so they have negative eps which may become positive eps in the future
(c) A higher than 50% premium over SPX P/E may be afforded to NAZ P/E due to faster than historically assumed growth in earnings
Arguments FOR LOWER Fair Value of NAZ:
(a) eps used by analysts are often pro-forma (together with other eps quality questions) so that they may overestimate true eps which might be closer to much lower GAAP eps
(b) multi-year estimates of tech companies eps growth may be skewed to the upside due to recent (late 1990s) fast eps growth which may not continue in the next several years

There is also the question of the right interest rate proxy (5 year, 10 year, or 30 year yield for either Treasurys or Corporates) and whether the (linear) Fed model is valid for historically low interest rates (short- and also longer-term).

Clearly, in addition to the above issues, there are sentiment-based issues of periodically overshooting and undershooting "correct valuations". Nevertheless, I believe in "regression to the mean phenomenon" which means that over longer time periods average valuations approximate the "correct valuations". Any comments would be most welcome.
P.S. I guess I always secretly wanted to be an analyst. LOL
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