Ouch, that can't be good. The irony is the expensive stocks are being bid up on hopes that their low earnings will improve in the future whereas the cheap stocks are being sold relentlessly because of fears their earnings will degrade in the future. I am more of a fan of future earnings rather than trailing earnings, since the past is the past but it's an interesting story nonetheless. Traditionally the market will trade at around 14-16x earnings so one could argue we are almost 80% overvalued? If... I repeat... if you believe the economic recovery (not that there was ever a downturn, I mean we just printed a 3.3% GDP quarter!) begins very early in 2009 than you can ignore the valuation and say this is "trough" earnings and the forward earnings will be much higher, and thus the market is "cheap" on forward earnings.

However, that was the same thesis for the '2nd half of 2008' back in the early part of the year (yes the market is expensive but based on our projections for 2nd half 2008 the market is cheap). I said that was a fantasy and it would be proven once we got "there" (here). Remember, back "then" they were predicting 60%+ year over year earnings growth in the fourth quarter of 2008 versus fourth quarter of 2007. So now we are here and many of those earnings are being slashed (for the 3rd quarter, but they still cling to hope for the 4th quarter) and now they are kicking the can into 2009 and using the same logic - i.e. the market is cheap if you look forward 6 months. I suppose we can do this over and over, and keep saying things are fine because in 6 months earnings will rebound. One day the pundits will even be correct.

We still live in denial. The US market rallies as the rest of the world drops on the belief "we will rebound first" So decoupling does not work on the way down, but it will work on the way up? We will somehow decouple from the rest of the world, despite having the worst of the issues (housing, credit, bailouts, federal budget deficits, consumers with 0% savings rate?) and rebound while the rest of the world suffers? Denial.

• Since mid July the S&P 500 has gained 4.4 per cent. In contrast, MSCI’s EAFE index, covering the developed world outside the US, is down 3 per cent and its emerging markets index is down 8.3 per cent. So this rally saw the US gain at the rest of the world’s expense.

• The best already may be over for the U.S. stock market this year. The Standard & Poor's 500 Index, which had the worst first half since 2002, added 0.2 percent this quarter, the only gain among the world's 10 biggest markets in dollar terms. Shares in the benchmark index for American equity climbed to an average 25.8 times reported profits, the highest valuation in five years. The last time that happened, the S&P 500 fell 38 percent.
• Wall Street forecasters, who were too optimistic about earnings for the past four quarters, predict income at America's biggest companies will grow by a record 62 percent in the final three months of 2008, according to data compiled by S&P.