Serious journalism has been on the decline in America for the better part of a quarter century.
And this couldn’t be more true than in what passes as financial journalism at CNBC. Now, don’t get me wrong. CNBC is my financial channel of choice.
Their stock crawlers and index screens are unbeatable in relaying up to the second market action. Fox Business News could learn a thing or two about how to keep an investor in the know.
Unfortunately, that’s about all CNBC has going for it…
The talking heads are so unprepared to discuss relevant financial matters with anyone that the sound on my TV has to remain muted – otherwise I risk tossing my TV out a window.
Take a recent quote by one of CNBC’s perma-bulls that the stock market is now fairly priced on an historic basis. He suggested that now is the time to get back into the market for most individual investors.
How could he make such an irresponsible statement?
In his report, he indicated the market has a current price/earnings ratio (P/E) of 15.5, which is very close to the historic average. Moreover, a 15.5 P/E ratio is 34% lower than the recent highs in 4Q2015 – which in his mind means it’s time to pile back into stocks.
But in another example of journalistic failure, he got it completely wrong…
You see, he used ‘operating earnings’ in his calculations instead of the usual ‘reported earnings.’
What’s the difference between operating earnings and reported earnings? A lot!
Operating earnings are ‘adjusted’ earnings, which can be significantly higher than a company’s real net income. This is because companies can legally label some of their expenses as “special” or “one-time” expenses and leave them out of their earnings calculations.
In short, it’s a way to fool shareholders into believing a company posted better quarterly results than the reality. This helps prop up stock prices and provides management a bigger piece of the pie since their bonuses are tied to performance.
But ever since the debacle at Enron, company officers have been required to sign off on their financials. And trust me, a stiff jail term awaits any corporate officer signing off on ‘operating profits’ in their official reports filed with the Securities and Exchange Commission (SEC).
You see, every publicly traded company must file a copy of its quarterly results to the SEC using earnings reported under generally accepted accounting principles, or GAAP rules. This means a company must report what actually happened to the SEC. No fuzzy math or fictional ‘one-time’ expenses allowed.
So let us examine how the differences in operating earnings and reported earnings impact decisions about fair value in the stock market.
According to the CNBC talking head, the stock market is currently priced at approximately 15.5 times earnings. With today’s S&P 500 close of 1,868, a 15.5 P/E translates to corporate earnings of $120.
How does this jive with actual earnings reported under GAAP rules as required by SEC rules?
It’s not even close.
You see, according to actual earnings reported under generally accepted accounting practices, corporate profits were $94.87. This translates to a real market price/earnings ratio of 19.69, or a ratio 27% higher than the one promulgated by the errant CNBC host.
Despite the recent declines in the stock markets, today’s price/earnings ratio remains higher than 90% of all previous markets – meaning the stock market is still over-priced at current levels.
And it’s more evidence that a journalism degree remains the world’s most expensive 8th grade education! Somehow, I think that wouldn’t please my 8th grade journalism teacher, Ms. Millar!