Warren Buffett says buy. Jeremy Grantham says it will get worse. Both are celebrated value investors. Who is right? It all depends upon your view of the third derivative of investing. Today we look at valuations in the stock market. This is the second part of a speech I have given in the past few weeks in California and Stockholm. I am updating the numbers, as the target keeps moving. While from one perspective things look rather difficult, from another there is a ray of hope. What can you expect to earn from stocks over the next five years? It should make for an interesting letter. Note: this will be a little longer than usual, but part of it is there are a LOT of charts.

I should note that I am rewriting this on Monday. For the first time in over 8 years, I missed my Friday night deadline (see below). Last week's title for the letter was "The Economic Blue Screen of Death." By that I referred to the old "blue screen of death" that we used to get on early versions of Microsoft MS-DOS and Windows. You could be working away and suddenly, for no apparent reason, the computer would freeze up and you would get a blue screen. The only thing you could do was unplug the computer and hit the reset button - losing everything that was not saved when the computer crashed.

I likened this to the economic situation we are in now. With consumer spending "resetting" to a new lower level, we are going to have to hit the reset button on many business plans, and thus investments, as consumers are going to spend less and save more. Is that level 3% less? 5%? More? No one knows, but since we have not had a consumer-led recession since 1982, too many businesses assumed that the US consumer, like Superman, was bulletproof.

What will be the eventual savings rate? Will we get back to 7-9% from less than 1%? Maybe, because people are going to realize that savings today are the key to a happy retirement. That would put the new level of consumer spending a good deal lower than it has been. Thankfully, that climb in savings will not happen all at once but will play out over more than a few years. I think we will look back in the middle of the next decade and be quite amazed at how much US personal savings have increased. However, this is the Paradox of Thrift: what is good for the individual is hard on the economy, as by definition increased savings reduces consumer spending.

With many sub-market indexes hitting new highs, and given the recent performance of the market, how can I maintain we are still in a long-term secular bear market? Shouldn't we get back in, as so many advise? That is a reasonable question, and the subject of today's letter.

We will start with a few quotes, and then move on to my commentary. A. M. Clifford writes:

"We are witnessing today a most extraordinary financial phenomenon, in the form of a Stock Market which has advanced with a rapidity and to an extent unparalleled in modern financial history.

"The ability to see that some things cannot be foreseen is a very necessary quality." -- Jean Jacque Rousseau.

It's the season when so many analysts participate in a group masochistic ritual: the annual yearly predictions. Like lemmings, they rush to the edge and leap. That they are so often wrong does not seem to deter them from making the same mistake the next year. And there they differ from lemmings, in that they live to repeat the act every year.

The end of this week's e-letter will be Part Two of "Why P/E Ratios Will Not Rise As They Normally Do After a Recession." The whole piece will be a chapter in my new book, Absolute Returns. Of course, I will have to think of a snappier chapter title. But snappy or not, it is important you understand the dynamics that are working to hold down P/E ratios today, and why this means the long term secular bear market now in session will remain so for several years to come.

This letter has some pretty important analysis, if I do say so myself. I tell you how we will recognize the bottom, and what can happen between now and then. You might want to forward this one to your friends.