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David M. Darst, CFA, is a financier,  educator, and author. He is a Managing Director of Morgan Stanley and serves as Chairman of the Asset Allocation Committee and Chief Investment Strategist of the Global Wealth Management Group, with responsibility for Asset Allocation and Investment Strategy, and was the founding President of the Morgan Stanley Investment Group. His most recent book is The Little Book That Saves Your Assets.
We spoke with Mr. Darst on August 8, 2008.
One of the first concepts you present in your book is that “As investors, we need to know where markets are today, where they are in the current business cycle, and where they are from a long-term perspective.” Can you briefly answer these questions, particularly with respect to the US equity markets?
These are very critical issues. At Morgan Stanley, we are still cautious on the US equity markets. There are three things we would like to see. First, we need to see home prices stop declining and, second, the financial system ease up. Mortgage rates are still high and surveys of mortgage lenders continue to show tightening credit. Thirdly, we would like to see the US earnings recession bottom out. We have had four quarters in a row of negative earnings growth. We may not be in a classical economic recession, but we are definitely in an earnings recession.
The good news is that oil is moving in the right direction. We also believe that gold below 900 is marvelous, and we think maybe the dollar is making a bottom. These are small victories, especially if oil prices remain steady.
This is like moving your child into a college dormitory room. We are still moving in. We may have carried the bookshelves up the stairs and into the room, but the stereo system and luggage are still in the car.
On a longer term basis, P/E ratios are cheap. I saw a chart this morning that says that the trailing P/E for the S&P 500 is down to 15, which is equal to its long term average. This is not to say that it could go below this level, but it is coming down from 27 or so.
Yale Professor Robert Shiller says we should look at the 10 year rolling average of P/E ratios [see our article on this subject]. We are still way above long term trends, when measured this way.
It took a lot of time to get a 100 year housing price bubble, and it will take some time to get out and finished with the housing price correction.
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