Dow 6440?

If you feel that 7200 is the lowest you’ll ever see the Dow, you may wish to reconsider. I read of an investor who, whenever confronted with an investment idea, used to ask “What can I lose?”. This is very important when investing for profits (yes, today may invest for losses but that’s for another time). You must always consider your downside.

This will be explained by first understanding how the stock market works. Here are a few facts that every investor must know and understand.

Every Stock Represents a Company.
This means that a ticker symbol is something more than the name of a bet on a race horse, rather it stands for a real enterprise, with real value and real earnings. If the intrinsic value of the underlying entity changes, you can guarantee that the share price will follow. Because of this…

What People Will Pay for Earnings is Crucial
While it is important to understand what a business will be worth in the future (the sole territory of the Growth Investor) it becomes integral for understanding what investors will pay for that worth in the future (The objective of the Value Investor). Because of this…

There are Bear Markets and Bull Markets
These are defined as times when the valuations (usually based on earnings, dividends or book value) are either rising (Bull) or falling (Bear). During this time stock prices will consolidate. This means that although valuations may be falling, prices will nevertheless shift far above and then far below their median value. Because of this…

Stocks Never Move in Straight Lines.
There will be gyrations and they are unavoidable. You will have a crash during a rally (1987) and a rally during a crash (1930). This is the market’s way of correlating the hopes of millions of investors and speculators around the globe. Because of this…

P/E Ratios Change
Historically P/E ratios have toggled between 44 and 5 (For example’s sake that gives us a current range of 28,366 and 3,220 for the Dow). Every Secular Bull Market has begun from a ratio below 10 and concluded above 20. Because of this…

The Dow May Soon Find Itself Below 7000
In the event that prices would sell off, a ratio of 10 would give us an estimate of 6440. We must also consider that earnings themselves may rise or fall, but as they say predicting the market is like predicting the weather so we’ll just keep our current earnings figure. (In the event earnings would rise by a figure of 10%, we would still be left with a Dow of 7080). But many will ask…

But I Don’t Own The Dow!
It is said that the Dow reflects 75% of the average issues on all exchanges. As a matter of fact, the Indexes are often known as the safest representations of common stocks. However, in an index itself one stock may rise 50% while the other falls 50%. (This is why you can technically beat the Dow by owning the Dow itself!). This is why you…

Don’t Follow the Market
Investors know never to follow “the market”. A stock may indeed be worth what you bought it for and you’ll make a killing while the market suffers a crash. (In October 1929 one of the shares on the Dow rose while the index as a whole crashed). Assess your margin of safety by whether or not your upside is greater than your downside.

And remember “Buying high to sell higher was never a profitable strategy”

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