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Is the S&P 500 Index Nearing a Near-Term Top?


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We talk a lot on this blog about the importance of the 200-day moving average to the S&P 500. In the past I’ve written several times about the fact that once the market moves above a band that is 10% above the 200-day moving average, it tends to pull back. This 10% band is the blue line that the index is just about touching in the graph above.

We have had a lot of extremely positive sentiment in the market this year, particularly with the largest of the large caps and the most speculative of the tech stocks. However, I noticed something today that has me a bit baffled: Twitter hit a market cap of just under $40 Billion. This is a really big number for a company that is losing a lot of money. I know, the investors in Twitter are buying it for the future growth and the prospect of enormous earnings to come. However, betting on the come is not an investment strategy – its a Craps strategy.

Take a look at this spreadsheet I put together:


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This sheet lists out several fairly well known companies and their market caps, which collectively are not valued as much as Twitter, yet have over $2.1Billion in earnings compared to Twitter’s loss of almost $150Million.

Sometimes the market gets ahead of itself and euphoria builds to the point that investors do things that are not necessarily prudent – like putting a value on a company well above its current earnings power based upon a vision of the future. It has happened countless times in the past and will happen countless times in the future. However, it always is a coincident indicator that the stock market needs to pull back to shake some sense into investors so they focus on fundamentals.

Yes, growth stocks are my primary focus in investing – but it is in companies with growing earnings and market share. It is not in companies that have not proven they can make money.

If you want to own an aggressive growth company, I have been buying companies like CryoLife (Ticker: CRY) or Natus Medical (Ticker: BABY) which both have positive earnings that are growing and they are capturing market share, but there are lots of really good companies with great futures that can make great investments. You just need to do your research and find them.

Is the S&P 500 Index nearing a near-term top? Honestly, I think we could see a pullback in the first quarter – but if 2013 is an indicator, the investors that are under-invested in stocks will use that as a chance to add equity exposure. The Fed’s money stimulus will continue to provide support to the market and drive money into stock – until bonds become a viable alternative or until investors decide that placing valuations on companies well in excess of their earnings power is silly.

Based upon traditional measures of value like price to book and price to sales, the market is 30% to 40% over-valued. At some point either the market will correct in a big way to bring us back in line with mean valuations or it will trade sideways until earnings, sales, and book value catch up with current valuations. But, I don’t think we are at that point – and any correction will be bought, pushing the market higher. However, at some point, people will realize that owning several companies with earnings power in excess of $2.1Billion is better than owning a company with a $150Million loss – it just doesn’t appear that it is now.

Investing is not gambling – day trading is gambling. There is a place for gambling, and that’s Las Vegas.

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