Dear Reader,
Mr. Lance Roberts, he of Real Investment Advice:
- Investor exuberance has rarely been so optimistic… Consumer confidence in higher stock prices in the next year remains at the highest since 2018, following the 2017 “Trump” tax cuts.
Meantime, never have American households plunged so heavily into stocks.
They are maximally confident in their prospects. Thus I am maximally mortified at their prospects.
That is because experience has instructed me to distrust herds.
It is why I graze nearly inevitably against the grain… and avoid locations where the crowd is thick.
Thus I am with Omaha’s sage, Mr. Warren Buffett — and his sage counsel to be fearful when others are greedy — and greedy when others are fearful.
Others are presently greedy. And so I am presently fearful.
It’s Always Different — Which Is Why It’s Always the Same
“This time is different,” runs the eternal refrain of investors. And it always is different — in the particulars.
A dot-com boom is not a housing boom is not an artificial intelligence boom.
It is these particulars that fox and deceive investors. It is why they believe this time is different.
Because they believe this time is different… is precisely why it is always the same.
It is precisely why investors perpetually stumble into the snare.
It is precisely why they come inevitably to grief.
I say inevitably. I know not the fatal day. I know not the fatal hour.
And I concede it at once: Manias can defy all logic, all sense.
And market manias are often the most maniac of all manias.
They may run for years. Yet again… they may not.
The Buffett Indicator
I have been searching for signs in the heavens… poring over the entrails of birds… consulting my oracle… and gazing into my crystal ball…
All in search of stock market warnings. To date the occult has failed me. I have searched in vain.
Yet shall we consider Mr. Warren Buffett’s far more earthly indicator?
The Buffett Indicator is simply the ratio of total United States stock market capitalization to the gross domestic product.
A reading below 100% indicates a stock market undervalued against the economy underlying it. Stocks are bargains.
A reading of 100% indicates a stock market and economy marching in step. Stocks are fair.
A reading above 100% indicates a stock market overvalued against the economy underlying it. Stocks are dear.
Mr. Buffett:
- If the percentage relationship falls to the 70% or 80% area, buying stocks is likely to work very well for you. If the ratio approaches 200% — as it did in 1999 and a part of 2000 — you are playing with fire.
The Buffett Indicator Is Off the Charts
This gauge neared 200% prior to the 2000-01 collapse with its horrific overvaluations in the technology sector.
That is, total stock market capitalization neared 200% of the gross domestic product.
What is its present reading?
The answer is 206% — a record extreme — greater even than the 2000-01 derangement. Yahoo Finance:
- That’s an unprecedented level… Buffett warned over 20 years ago that when the ratio gets close to 200%, investors are “playing with fire.” Welcome to the flames.
Welcome to the flames indeed.
Adds Barchart:
- Warren Buffett Indicator hits 200% for the first time in history, surpassing the Dot Com Bubble and the Global Financial Crisis.
Of course this Buffett indicator is no crystal sphere. And do not set your clock by it.
It merely takes the overall view. Yet the overall view is… disconcerting.
It reveals that Main Street and Wall Street are extravagantly “out of whack.”
And that which is miles and miles out of whack must fall ultimately into whack — or some semblance of whack.
Let us next consider the famous Shiller P/E ratio…
Flirting With Another Record
What is the Shiller P/E ratio? It is simply another implement crafted to determine the valuation of stocks.
Analyst William Bengen:
- This metric represents a P/E for all the companies in the S&P 500, based on their current stock prices and the previous 10 years of inflation-adjusted earnings. It seeks to “smooth out” short-term fluctuations in earnings and come up with a P/E representative of the true earning power of the companies involved.
As history runs, a 17 reading is roughly par.
On 1929’s Black Tuesday this ration measured 30. In December 1999 the ratio posted a record 44.19 reading.
But again, a 17 ratio is about par as history runs.
What is today’s ratio, you ask?
The answer is 38.54 — some 21 points above historical par — and merely 5.65 points beneath peak delirium.
That is, stocks are obscenely and preposterously overrated.
The Climate Isn’t the Weather
What are we to make of it? I offer no precise answer.
As the Buffett indicator, Mr. Shiller’s ratio wields limited predictive power.
It reports the climate — not the weather.
Fair winds and fair skies may prevail for months and months and months.
Or heavy weather can come barreling in tomorrow, from a clear sky.
I issue no prophecy of impending correction — or worse. I merely appraise conditions as they exist.
Yet we believe powerfully in one fundamental concept — “reversion to mean” — and the punishing laws of probability.
The Only Place Fools Will Learn in
Scales ultimately balance even, extremes iron out. The great equalizer of time does the balancing and the ironing out.
That which goes up comes down, that which goes down comes up. Mountains rise, mountains crumble, the strong collapse and the meek inherits the Earth.
In brief: Extremes do not endure.
I hazard stock market and economy will meet once again upon common ground.
I further hazard they will meet upon the economic level — not the stock market level.
When? The answer… as always… is on the knees of the gods.
Yet the fools are rushing in, as they so predictably do at such times as these.
I hazard they are heading for a good, sound whaling.
Yet they are convinced — as they were last time — that this time is different.
“Experience runs a hard school,” as said old Benny Franklin… “but fools will learn in no other.”
Regards,
Brian Maher
for Freedom Financial News
