ALEX COHEN, host:
This is Day to Day from NPR News. I'm Alex Cohen.
MADELEINE BRAND, host:
And I'm Madeleine Brand. The stock market is finally back to its fair value, even after yesterday's horrendous plunge of nearly 700 points. That's what Henry Blodget says. He's the editor of clusterstock.com. Welcome back, Henry.
Mr. HENRY BLODGET (Editor, Clusterstock.com): Thank you very much. Glad to be here.
BRAND: So, what do you mean? What do you mean that stocks are back to their fair value?
Mr. BLODGET: Well, after yesterday's plunge, I'm happy to say that they are now modestly undervalued, which is encouraging. But everyone talks about the PE ratio of the stock market, which is the price to the earnings of the companies. And what people often do when they look at that is they look at a single year's end earnings. And then they take the PE ratio back on that, and if it's more than 15, they say it's overvalued, and if it's under 15, they say it's undervalued.
The problem with that is that earnings change as profit margins change. And really, if you step back, and you just draw a line through earnings for the last hundred years, what you find is that they grow, on average, about six percent. And if you just draw that straight line, and you plot the stock prices over the period, what you find is that sometimes, stock prices are well above the average PE line, and sometimes, they are well below. And what I was saying is that they have now finally gotten back to average after being overvalued for about 15 years.
BRAND: And average being less than 15?
Mr. BLODGET: Average is about 15 times. That's, if you go back about a hundred years, and you calculate earnings the way that I just talked about, where you average out the business cycle, and you take an average profit margin, you get a PE of about 15 times, slightly less. But so, 15 is a good number to use. And we are now slightly below that on that measure.
BRAND: That would surprise a lot of people who think that, they look at their portfolio, and they just see it going into the gutter.
Mr. BLODGET: And who can blame them? As it happens, over the last 15 to 20 years, stocks have been well above that average. And now that we've had this precipitous collapse, we've actually come down to the average or just below the average, in the case of today.
And the good news about that is that, if you are a long-term investor, you can actually feel more comfortable adding money to the stock market than at any time in the past 15 years, with the exception of a couple of minutes in 2003, when we got down to this level.
And I should stress, again, that does not mean that we're not headed lower. I think we probably are in the near term. But over the longer term, this is actually an average evaluation, and you should get an average return.
BRAND: And what is an average return?
Mr. BLODGET: Average return for the S&P 500 is about 10 percent a year.
BRAND: And so, what would you say to people who are thinking, OK, I'll buy in right now. Where should they go? Should they go with index funds or should they go with individual stocks?
Mr. BLODGET: Index funds are just the wise play for the vast majority of investors. And the reason is that it turns out that it is incredibly difficult to pick stocks that are going to do better than average and not pick stocks that are going to do worse. And everybody has good ideas once in while, and you always remember those, and you tend to forget about your losers because they're such horrific memories.
But it turns out that, on average, the best way to go is index funds. Part of the reason there is that they just cost a lot less. You don't have to put a lot of effort into it. So you end up getting a better return than the majority of investors by buying index funds.
In terms of what people should do now, obviously, psychologically, it's incredibly difficult to continue to add money to the stock market as it continues to go down. But I think the wise play, again, is to just stick to your long-term investment plan. If you have figured out over time that you can't handle the volatility of the stock market, and it's just too painful, you probably are over weighted in stocks.
And you probably have too much near-term money in the stock markets. And the stock market isn't for near-term money. It really is for this long-term investment, and I just think you should continue to invest modestly over time and stick with your long-term allocation of stocks, bonds, and cash.
BRAND: Henry Blodget is the editor of clusterstock.com and providing us with the dose of - I don't know - phew, I guess.
(Soundbite of laughter)
BRAND: I don't know. I feel a little...
Mr. BLODGET: I'm not sure it feels (unintelligible).
BRAND: I feel a little reassured. I feel a little reassured talking to you. Thanks, Henry.
Mr. BLODGET: Thanks for having me.
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