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Clear and Present Markets -- Valuation Levels Look Stretched


From the Buzz & Banter: Tom Clancy's thoughts on market valuation levels.

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From a hair salon-and-store stock to the Denver Broncos, here are the four things I'm thinking about today:

1. Analysts are already throwing in the towel on first-quarter earnings, which sets up nicely for the "beat the number" game Wall Street plays every three months. ConvergEx had a note out this morning highlighting how the sell side lowered its first-quarter 2014 revenue growth forecasts from 4.0% to 1.4% in just four months. Second-quarter expectations have been lowered from 4.4% to 2.7%. The point of its note was to question whether investors will pay 17x earnings for profits generated by cost-cutting and financial engineering.

2. Since I am underweight discretionary stocks, with an eye on increasing my allocation as we head into summer, I am watching Ulta Salon (NASDAQ:ULTA), which will report earnings after the close tomorrow. I can't imagine the numbers will be very good, and the stock is up about 10% from its lows in January, so there is some downside risk with it trading at 30x earnings. That said, I could be a buyer if the valuation becomes more compelling. Mary Dillon was named CEO last June, and with her "mulligan year" coming to a close, she will have to deliver results. The company has a solid concept, building a store around the beauty salon, which provides frequent traffic and merchandising potential. It also has room to expand its footprint, and given the frequent traffic Ulta drives, it should command attractive lease rates as many shopping-center anchors are contracting. It could be a long-term winner, but the valuation still looks a little stretched to me.

3. Risk-taking has returned, not only to the markets, but also to careers. The co-chairman of Disney Media Networks (NYSE:DIS), Anne Sweeney, is resigning to "become closer to the creative process," potentially directing television shows. With stocks higher for several years now, it appears executives are feeling confident enough to exit and intentionally pursue other endeavors. From a socionomics standpoint, this exhibition of confidence might be indicative of a market top.

4. The beginning of the NFL's free-agency period provides great insight into perceptions of value. As a resident of Philadelphia, memories of the colossal failure of the Eagles's 2011 "Dream Team" provides a good reference for investors. A number of high-priced free agents were assembled to bring the city its first championship, but they failed to make the playoffs and the coach was fired.

In free agency and in mature stock markets, investors pay premiums for previous performance, which may not be reflective of the performance of that asset in the future. The most frequently used (but often ignored) statement about investing is that "past performance is not indicative of future returns."

As I watch the Denver Broncos sign a slew of free agents who are at or past their primes, supplemented by a bunch of cheaper, unproven players, it is clear that this is a team hoping that aging stars will perform as they have for another season or two. This is not unlike the current stock market, where investors are hoping to squeeze another good year or two out of an asset class that has exceeded expectations for the last five years. I encourage investors to look at their portfolios, with an eye on their time horizons and risk tolerances, and ask if they have a collection of assets built for the long term, or built to garner short-term happiness with a high likelihood of breaking down before getting us to the desired "end zone."

Twitter: @Honest_T

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No positions in stocks mentioned.

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