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Corporate earnings can’t keep up with rising markets

It has to be a good time to sell your business: the stock market is frothy, valuations are high and the big corporates are flush with cash looking for a home. On both sides of the Atlantic, owners are taking advantage by doing IPOs, selling old shares to eager buyers and issuing new stock to investors. The question that no one can truly answer is whether the resurgence of equity makes this a good time to buy, or whether we're simply seeing a cyclical adjustment by funds overinvested in bonds, or private equity firms recycling their portfolios.

There is no doubt that global funds are piling into U.S. equities, on a rising trend since January, reaching a weekly level of more than $75-billion (U.S.). Cash is going into mutual funds and the S&P500 is up by a fifth so far this year. It's probably enough profit to wipe away the stain left by Facebook's ill-judged and overpriced offering last year. Small wonder that Twitter has decided the time is right to cash in on name-recognition, and Hilton Worldwide, too, probably hopes that private investors will boost the value of its stock.

In Europe, equity markets are pursuing America but with the pace of offerings rising at a faster rate. Europe is attracting U.S. funds seeking cheaper valuations: the London market trades on a historic earnings multiple of 16, compared to 19 times for the S&P 500. Foxtons, the London real estate agent which went public this month, has enjoyed a 17 per cent share price surge, and last week, Royal Mail received enough applications to subscribe for all of the government shares on offer within hours of the books opening. In Milan, Moncler, the fashion designer that makes $2,000 down jackets, hopes to sell stock into the equity frenzy this winter.

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In this market, it seems that you don't even need an established business to raise cash, just a brand or a name, such as Lord Browne, the former BP chief executive who is hoping to raise £1.5-billion ($2.5-billion) for Riverstone Energy, a new vehicle that will invest in upstream oil and gas.

If you believe in rules of thumb, market multiples are beginning to look expensive, rising above the mid-teens, although they are still well shy of their 2007 peak. More important, of course, is where you think corporate earnings are going to continue growing in a world still troubled by euro zone dysfunction, political deadlock in America over fiscal policy, high energy prices (outside North America) and faltering demand in emerging markets. Much of the current crop of equity offerings relates to the need by private equity funds to sell pre-crash investments. Most PE firms like to recycle their investments on a three to five year view, and we are now at a point where some very expensive investments make in 2006 and 2007 are probably beginning to look respectable in valuation terms, thanks to the bubbly market.

That's a good reason to sell if you are an owner, but it doesn't explain why a buyer should expect exceptional growth over the next three to five years. It would be interesting to hear the growth story, but at the moment it isn't shouting from the roof tops.

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About the Author

Carl Mortished is a Canadian financial journalist and freelance consultant based in the U.K. With a career spanning investment banking, journalism and consulting for global companies, he was for many years a financial writer and columnist for The Times of London. More


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