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To: Bill Harmond who wrote (8965)	4/2/1998 9:58:00 AM
From: Oeconomicus	Read Replies (2) \| Respond to of 27307

The S&P 500 is overvalued by ~15% on dividend discount models right now. WH, how did you arrive at this figure? What model are you using? What required return and growth rate? Using the basic stable-growth dividend discount model, k=11%, g=...what the hell-make it 6% (2% inflation + 4% real growth), and assuming D(1)=$17 (D(0) was only $15.88), yields a value of 340. Even I don't believe that, so... Let's try a stable-growth FCFE model. k still = 11%, g still = 6%. Let's assume that FCFE=reported earnings (CAPEX=depreciation, WC and debt changes are nil) and earnings grow by 7.5% this year so FCFE(1)=$42.75. $42.75/(.11-.06)=855. 1109/855-1=29.7%. What is the basis for your "15% overvalued" estimation? 20% usually triggers a break in breadth. 30% caused the '87 crash. If long-term rates go lower, then that problem eases. Looks to me like we are there at 29.7% overvalued on the FCFE model. BTW, my "k" is actually a tad low based on a risk premium of 5.5% over the T-bond rate (Damodaran, Investment Valuation, Wiley, 1996, p.48). Also, my "g" is probably high unless inflation rises (in which case the risk free rate should rise too) and FCFE is probably less than reported earnings unless businesses are going to stop spending money to grow. Regards, Bob