As stocks hit record high after record highs, it might be normal to expect that equities will just get too expensive and collapse under their own weight. Not necessarily.

 

One of the investor's favorite valuation metrics is called the forward price/earnings (P/E) ratio. The concept is quite simple: compute the market value of any stock and divide it by what the company is projected to earn over the next 12 months. If the ratio is higher than the long-term average, consider it expensive. It is considered cheap (generally) when the stock trades below that average.

 

The P/E ratio you can compute for an individual stock can also be applied to a market index, such as the benchmark S&P 500 Index. In late August 2020, the forward P/E of the S&P Index hit a high of 23.6. At the time, the index was trading at a bit more than 3,500. Intuitively, you might think that today that ratio would be much higher given the gains in the market. However, at the end of July, 2021 that forward P/E was 21.2 — lower than a year ago — despite a gain of 25 percent in the S&P 500 Index.

 

A 21.2 forward P/E is still expensive compared to the 10-year average of the ratio, which is 16.2 percent. Yet, according to one Charles Schwab equity strategist I admire, Liz Ann Sonders, an investor shouldn't place too much weight on long-term historical averages.

 

During the early months of the pandemic, no one knew what companies were going to earn, so analysts took the most conservative approach, and cut earnings estimates drastically. That caused the forward P/E ratio to move higher. Since then, as more information was forthcoming, earnings estimates have risen even faster than stock prices.

 

Second quarter's earnings results are a great example of this. More than 90 percent of S&P 500 companies have beat estimates on both the bottom and top line. That is to be expected in a booming economy, and will lead to even lower P/E ratios. Low interest rates also provide an added boost to earnings because the cost of borrowed money is much lower.

 

Investors should also remember that a growing percentage of companies in the S&P 500 Index are technology companies that reflect today's market realities. As such, tech companies command higher valuations, since their prospects of future growth are much higher. It is just something to remember when you hear someone citing forward P/Es as a reason to sell the market.

 

All the worries that have plagued investors last week still exist. And as is its custom, stocks continue to climb this wall of worry as we enter the month of August. As I expected, the averages have been volatile on a daily basis with the NASDAQ clearly leading stocks higher.

 

I had coached readers to keep their eyes on the Semiconductor index as a "tell" on how bullish the markets remain. That index made a new all-time high this week, and appears poised to continue its gains. Technology shares have been the best performers lately. I believe they will continue to take the lead as long as the number of Delta variant coronavirus cases continue to climb.

 

It is somewhat similar to the playbook investors used last year when COVID-19 had all of us on lock-down. No one knows how bad the Delta variant will be, nor if the next mutation, Lambda, will be worse. The fear is that the pandemic will begin to hold back the economy and maybe even result in some lock-downs causing investors to shun industrials, commodities, materials and financials in favor of Investing in FANG stocks, stay-at-home plays, and the Kathy Wood universe of new era, growth names that I call "Wood Stocks."

 

The latest non-farm payroll report reported on Friday (Aug. 6) was an upside surprise, however, with the economy adding back 943,000 jobs, while reducing the unemployment rate to 5.4 percent. Those numbers breathed some new life into those underperforming sectors, helping the overall market to continue to forge ever higher.

 

Bill Schmick is the founding partner of Onota Partners, Inc., in the Berkshires. His forecasts and opinions are purely his own and do not necessarily represent the views of Onota Partners Inc. (OPI). None of his commentary is or should be considered investment advice. Direct your inquiries to Bill at 1-413-347-2401 or email him at bill@schmicksretiredinvestor.com.

When does a loan, not feel like a loan? That is the idea behind one of the more exciting new concepts being floated by the financial technology community. It is an idea that is just catching on here in the U.S., but it could challenge traditional credit cards overtime.

 

Are you really going into debt when you buy something and pay it off in a set number of installments? Technically, yes, but it doesn't feel that way, especially if you are paying 0 percent interest on the installments. That's evidently what Square, a leading financial service, digital payments company believes when it announced this week it was acquiring Afterpay, an Australian-based Buy Now Pay Later (BNPL) company in a $32 billion all-stock deal.  

 

So why all the fuss over BNPL?

 

E-commerce companies are betting that younger Americans, who do most of their shopping on line, are not as excited as their parents and grandparents were with the benefits of credit cards. They may be unwilling, or unable to open credit card accounts. Instead, many millennials are following the example of Europeans, who have traditionally avoided credit cards and the debt that comes with them.

 

In Europe, where BNPL accounted for 7.4 percent of e-commerce payment methods last year, consumers are more willing to buy an item online, even though they may not have the full amount of the purchase available in their bank accounts. As long as they honor the terms of the installment agreement, everything turns out roses.

 

Here in the U.S., the idea is catching on. This holiday season, for example, I purchased a new Apple iPad for a loved one through PayPal Holding Inc. The company was offering a BNPL scheme called "Pay In 4" (installments) with no fees.

 

After reading the fine print, I realized that like so many of these offerings, if I missed a payment, I would be hit with penalties and fees and possibly damage my credit score. After researching the issue, I found out that nearly 40 percent of U.S. consumers who used BNPL have missed more than one payment, and 72 percent of those saw their credit score decline.

 

I am one of those people who pay off their credit card debt in full each month. I confess that I was so worried I would forget a payment, and incur a fee, that I ended up paying off the charge in two, rather than four, installments.

 

More and more retail websites, however, are now offering these services. The leading providers are Affirm Holdings, Inc., which just joined Apple in a BNPL deal in Canada, PayPal Holdings, Inc, Swedish-based Klarna and Afterpay/Twitter. It is estimated that in 2020, BNPL companies facilitated between $20 billion and $25 billion in U.S. transactions, but that only accounts for 1.6 percent of U.S. digital payments. The bet is that BNPL will grow as a result of online shopping and the culture clash around credit cards.

 

Let's face it, credit card debt in America has a bad reputation. Almost half of all Americans are carrying credit card debt. The average household credit card debt is $5,315. And while the percentage of revolvers (those who carry a debt balance on their cards) declined a bit during the pandemic, it still comprises 40.1 percent of all credit card holders.

 

But that has not stopped us from accumulating more and more credit card debt. Credit card balances increased by $17 billion in the second quarter 2021 (to $787 billion), according to the New York Federal Reserve's Household Debt and Credit report. While that is still below the $927 billion amassed prior to the onset of the pandemic, it continues to grow.

 

The optimists argue that younger American millennials don't want to be saddled with this kind of debt and fall in the trap of only paying down monthly charges forever and ever. Yes, BNPL is still debt, but only deferred and not forever, so there is little temptation to roll it over. The critics say that more than 40 percent of those using BNPL can't get access to traditional credit, either because their credit limit is maxed out, or they have poor or non-existent credit history.

 

Bill Schmick is the founding partner of Onota Partners, Inc., in the Berkshires. His forecasts and opinions are purely his own and do not necessarily represent the views of Onota Partners Inc. (OPI). None of his commentary is or should be considered investment advice. Direct your inquiries to Bill at 1-413-347-2401 or email him at bill@schmicksretiredinvestor.com.

The good news first. The economy grew by 6.5 percent in the second quarter, which was one of the best quarters in recent memory. The bad news: it was a big miss.

 

Economists were expecting an 8.4 percent rise, but the markets took it in stride. One explanation is that investors are well aware that the macroeconomic data is, at best, somewhat unreliable and prone to large revisions. It is not the government's fault. The pandemic and subsequent reopening of the economy has made gathering economic data difficult.

 

Another reason investors gave the miss a pass is that consumer spending, the biggest component of U.S. economic activity, exceeded expectations. A stronger than expected number supports the case that the economy is still in good shape. It was shrinking inventories, rather than a falloff in demand, that dented growth. Supply chain restraints and shortages were a substantial part of the drawdown in inventories.

 

The weaker GDP number is also one of those "bad news is good news" events, since it supports the Fed's argument that there is no need to tighten right now. This month's FOMC meeting, and Fed Chairman Jerome Powell's press conference, drove the point home that there would be no change in policy.

 

For the time being, Powell said, the Fed will be more focused on gaining jobs than in controlling a temporary spike in the inflation rate. Bond traders are guessing that at some point in the fall we can expect the central bank to begin tampering their bond purchases. Of course, the wild card will continue to be the spread of the Delta variant of the coronavirus.

 

On the political front, kudos are in order for those on both sides of the aisle. Senators from both parties finally arrived at a compromise on infrastructure spending. The 67-to-32 Senate vote, which included 17 Republicans in favor, cleared the way for passing the first infrastructure bill in years. President Biden deserves credit for his ability to lead (as well as to compromise). But investors should know that there is still a long way to go before this deal becomes law.

 

My own disappointment centers around the fact that this agreement only includes $550 billion in new federal spending spread over many years. It is not nearly enough, in my opinion, to repair and rebuild a nation's worth of roads, bridges, railroads, transit, water, and other necessary physical infrastructure programs.

 

For example, just repairing (or rebuilding) one century-old tunnel that connects New Jersey with Manhattan would cost $11.6 billion or more. How many more such bridges and tunnels are there across the country? If we compare the amount other nations spend on infrastructure, (think China for example) this bill is woefully inadequate. It almost guarantees that our nation will continue to slip lower on the economic scale, among most nations.

 

Fortunately, the Democrats are working on a $3.5 trillion budget blueprint that will provide additional spending on climate, health care, and education.

 

As this quarter's earnings season winds down, it is no surprise that the vast majority of companies beat estimates on both the top and bottom lines. It was to be expected, given easy comparisons and the surge in economic activity. Those earnings are what have propelled the averages to new highs.

 

Large cap, growth stocks have had a great run recently and seem to me to be a bit over-extended. Some of the FANG stocks experienced a bout of profit-taking this week as well. We will also have passed the Aug. 1 deadline on raising the debt ceiling, which should create some short-term angst among traders. It wouldn't surprise me if we see a mild pullback (3-5 percent) in the weeks ahead, so be prepared.   

 

Bill Schmick is the founding partner of Onota Partners, Inc., in the Berkshires. His forecasts and opinions are purely his own and do not necessarily represent the views of Onota Partners Inc. (OPI). None of his commentary is or should be considered investment advice. Direct your inquiries to Bill at 1-413-347-2401 or email him at bill@schmicksretiredinvestor.com.

After the Olympic Games conclude on Aug. 8, Japan will still be tallying the final cost of hosting the games. Indications are that the final price tag could be more than $20 billion.

 

Was it worth it?

 

The most recent polling data suggest the answer is a resounding "no," at least as far as the Japanese are concerned. Over 83 percent of the people polled, who live in Japan, believe the Olympics should not have taken place this week. To the Japanese, it is not just the expense of the games, but the holding of this event while the country is in the midst of a resurgence in the Delta variant of the coronavirus. Many fear the games will cause a "super spreader" within the country and possibly the world.

 

In an effort to reduce those risks, the Japanese government banned spectators from the games in Tokyo, while announcing a state of emergency to combat the latest surge of COVID-19 cases. The nation has reported more than 118,000 cases and 14,800 deaths so far, which is not much compared to other countries, and they want to keep it that way. However, this week, the government announced the third day of record-breaking coronavirus cases. But the rate of vaccinations has also been hampered by Japanese government requirements that vaccines must be vetted through the Japanese medical regulatory system before being administered. As a result, only a quarter of the population has had at least one shot thus far.

 

As for the cost of hosting, it is well known that hosting Olympic games is one of the most expensive events a nation can organize. The average cost of hosting such an event is about $12 billion. Construction costs of an Olympic Village plus various arenas is the biggest single item. In Japan's case, construction will total about $3 billion. In addition, non-sports related costs can be several times the construction costs, if history is any guide.

 

The forecast when Japan originally bid for the games was $7.4 billion. Since then, however, the games were postponed for a year due to the pandemic. That added another $2.8 billion to the price tag.

 

Cost overruns have always been an issue in budgeting for the Olympic games. Tokyo was no exception. The question will be just how much over budget the costs turn out to be. Estimates range from 25 percent to 50 percent of the original estimate. The most recent official budget released by Japanese auditors set the price at $15.4 billion, but analysts believe that is way too optimistic.

 

Given the costs and problems involved, you might wonder why countries still compete to host the games? Many countries believe it offers a chance to show off their nation, while creating a sense of national pride. There is also an assumption that the Olympics can improve the host nation's global trade and stature, while also increasing tourism (therefore boosting local economies).

 

Unfortunately, the historical facts do not necessarily back up those claims. The 2008 Beijing Olympics, for example, generated $3.6 billion in revenues, but cost the host city much more. London generated $5.2 billion in sales back in 2012, but faced $18 billion in costs. Most host countries had similar economic experiences. Measuring other benefits has been difficult to quantify.

 

The financial impact of cost overruns and accumulated debt can also be far-reaching. It took Montreal 30 years to pay off the debt it incurred after the 1976 Summer Games. The 2004 Games in Athens were so costly that it contributed to the financial and economic debt crisis of Greece for a 10-year period between 2007-2017.

 

Unfortunately, this time around, thanks to the pandemic, the benefits to Japanese tourism will be far less than expected. Empty stadiums will cost the Organizing Committee of the Olympic Games more than $800 million in lost ticket sales. Advertising revenues will likely be lower. An estimated $2 billion in hotel rooms, meals, transportation, and merchandise will fail to materialize as well.

 

While a $20 billion hit to the Japanese economy is sustainable (less than 1 percent of Japan's Gross Domestic Product), it hurts nonetheless. The ruling Liberal Democratic Party government is already attempting damage control in the face of the voting public's unhappiness with holding the event.

 

At the same time, organizers are holding their breath as the number of new coronavirus cases increase. More than a dozen new cases were reported this week among Olympics personnel, bringing the total thus far to more than 150. A U.S. pole vaulter, Sam Kendricks, a world champion tipped for a medal at the Olympics, tested positive for COVID-19 and was forced to drop out of the games. Organizers had hoped to contain the spread of cases, but have been less than successful thus far.

 

You would think that with all of the above problems in Tokyo, the Olympic Winter Games might be in jeopardy, or possibly postponed. No such luck. China, the cradle of the coronavirus, is scheduled to host the winter games on Feb. 4, 2022, less than seven months away. Go figure.

 

Bill Schmick is the founding partner of Onota Partners, Inc., in the Berkshires. His forecasts and opinions are purely his own and do not necessarily represent the views of Onota Partners Inc. (OPI). None of his commentary is or should be considered investment advice. Direct your inquiries to Bill at 1-413-347-2401 or email him at bill@schmicksretiredinvestor.com.

In just one week, the major averages have had a 3 percent swing from lows to highs. These gyrations go hand in hand with the high level of indecision investors are feeling right now. Can you blame them?

 

Last week, and into the end of the day on Monday, the S&P 500 Index registered a 3 percent decline. In the next few days, all of those losses were recouped and then some. While investors breathed a sigh of relief, I don't think we are out of the woods just yet.

 

Most strategists blame the decline in stocks on the free fall in yields. The U.S Treasury Ten-Year Bond (the "Tens") fell to 1.13 percent at its lowest point on Monday. At the same time, the U.S. dollar spiked higher and broke through several technical resistance levels. Wall Street traders worried that something "big and bad" might be about to happen.

 

Equity investors decided to sell first and ask questions later. The fact that we are in the middle of summer vacations didn't help. On low volume days like we have now, traders can push the prices of stocks much higher (or lower) than normal. The one thing I can say for sure is that the actions in the financial markets over the last week were not normal.

 

Bond yields rarely move in such a wide range in such a short period of time. This week, we have seen yields on the "Tens" move from 1.13 percent to 1.30 percent, and back down to 1.25 percent. Those are massive moods for the bond market.

 

The price of oil dropped to $65.56 a barrel on Monday, which was more than a 7 percent decline in a single day, but now, just a few days later, that same barrel of oil fetches $71.75. Heck, the price of Bitcoin suddenly appears to be a model of stability compared to some of the moves in stocks, bonds and commodities this week.

 

Fed policy, interest rates, deflation, inflation, stagflation, and now the upcoming battle over the debt ceiling fills out the list of worries that have investors on edge.

 

Monday's stock market swoon may have also had something to do with the Coronavirus Delta variant. As I warned readers, the new cases of the Coronavirus Delta variant are surging and should be taken seriously. I'm guessing the fear of the Delta impact on economic growth is finally dawning on investors. But the event I fear most is a vaccine-resistant, coronavirus mutation, spawned from within the huge population of unvaccinated.

 

We have already witnessed a number of new virus strains that are assaulting the efficacy of our present vaccines. Take, for instance, the recent findings from a team of New York University researchers that the one-shot, Johnson & Johnson vaccine is far less effective at preventing coronavirus infections from the Delta variant and other mutated forms of the virus than from earlier strains. An Israeli study found that the Pfizer vaccine is less effective against the Delta variant than we thought.

 

What would happen if a future mutation proves to be resistant to any or all of our vaccines? I fear that as long as the majority of the world's population (including 40 percent of the U.S. population) remains unvaccinated, the probability of such an occurrence is increasing every day.

 

The actions of the market this week make me believe we will see more volatility in the weeks ahead. The main averages may not fall out of bed, altogether, but they could. It's been a long time (last October), since we have had even a 5 percent pullback in the broader market.

 

So far, we have avoided a general market decline. Instead, we have experienced a series of rolling corrections throughout various sectors. The transportation index, for example, was down as much as 12 percent since May. Some basic material and commodity stocks have also had similar big corrections.

 

My advice is to get ready for some more weeks like this last one. They may not all end up in favor of the bulls, either, because July into August is usually a weaker period for equities. You might want to consider a vacation in the weeks ahead, and let the markets work out some of their issues.

 

Bill Schmick is the founding partner of Onota Partners, Inc., in the Berkshires. His forecasts and opinions are purely his own and do not necessarily represent the views of Onota Partners Inc. (OPI). None of his commentary is or should be considered investment advice. Direct your inquiries to Bill at 1-413-347-2401 or email him at bill@schmicksretiredinvestor.com.