The Art of Valuation | 10-15-21

By John Stewart, chief investment officer at Farmers Trust Co.

Week in Review: Jobs Weak, Inflation Hot, Taper On

The September payrolls report was released last Friday and it wasn’t pretty. It was expected that September would bring about an influx of workers back into the job market since expanded unemployment benefits ran out at the beginning of the month. Instead more people LEFT the labor force!

Just 194,000 jobs were added in September versus an expectation for 500,000. Meanwhile, the labor force declined by 183,000 people – mostly due either to retirements or people who decided to stop looking for work. Not exactly encouraging news given the continued labor shortage that is clearly evident to anyone who’s been paying attention.

It’s no coincidence, therefore, that inflationary pressures continue to be an issue. Supply problems, including the supply of labor, are sending prices up at the fastest rate in 30 years.

Consumer prices for September, released earlier this week, rose 0.4% versus an expectation of a 0.3% rise. On a year-over-year basis, prices increased by 5.4%.

Given the persistence of the inflationary pressures we’ve seen, the Federal Reserve has stated that it will like taper the pace of its monetary stimulus starting in mid-November. So far, the markets seem to be taking this news in stride despite a bit of volatility in the past few weeks.

Featured Insight:  The Art of Valuation

Valuing stocks is difficult under the best of circumstances. If it were as easy as buying stocks that appear “cheap” based on some valuation metric like price-to-earnings or price-to-sales, everyone would be rich.

No one knows with precision which valuation model should be used for any particular stock, and models themselves are subject to variables and estimates about an uncertain future.

Picking individual stocks that outperform the market is ultimately more “art” than “science.”  Investors must synthesize information about not only a company’s valuation, but also business and industry trends, the quality of a company’s management team, and the overall sentiment toward a particular stock to determine whether it is a good buy.

Looking Ahead:  Third Quarter Earnings

Corporations began reporting their results for the quarter ending September 30th this past week

Overall S&P 500 earnings are expected to be 25% higher in the third quarter of 2021 than they were in the third quarter of last year. They’ll actually probably be closer to 30% higher when they’re finished being reported.

Sounds like good news, right? Well, not so fast. The third quarter is already history. What really matters is whether guidance for the next two quarters is higher or lower than is currently expected.

Will companies start to offer more cautious guidance as supply chain issues and labor shortages start to crimp sales and profit margins? The early reports are showing signs that this may in fact be the case. We’ll have to wait and see as to whether or not a broader trend develops.

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