Question

1) hussman Fund argues in his article buffet wrong why market valuation are not justified by low interest rate. that if interest rates are low because growth rates are low, then stock prices should not be higher,Explain?

2) Explain Hussman’s argument in aticle that comparing prices to earnings (i.e. using a P/E ratio) is not useful for estimating future investment returns

Answer 1

1: What Hussman seeks to explain is that if the interest rates are low due to low growth rates, the stock valuations will be low due to lower cash flows in future. So if a lower discount rate is used for compuyting the presnt value of future cash flows, the valuation will still be low. This is contrary to the false impression that people get when the rates decline since they forget to take into account the lack of growth in the economy and wrongly overvalue the shares.

2: As per Hussman using the PE Ratio is a very poor way of estimating the future investment returns. This is because  most of the variation in earnings,specially at the index level, is uninformative. The corporate earnings are highly volatile even more that the stock prices. The stock prices are not only reflective of next year's earnings but long term future earnings. The next years earnings cannot be reflective of the earning capacity of the business and so the P/E Ratio is an ineffective method.