Keep ignoring John Hussman, Robert Shiller, Jeremy Grantham, and all the other data oriented people who honestly assess the stock market and are positive we are in for a big fall. The market is so overvalued at this point that it won’t even need an external event to trigger a crash. Gravity always wins in the end.
Opinion: Being a stock-market bull just got a lot harder
The U.S. is overvalued when using many different metrics
ReutersLondon (MarketWatch) — Making the bullish case is getting a lot harder.
Let’s say that you want to wriggle out from underneath the bearish conclusions of the cyclically adjusted price-to-earnings ratio (CAPE), which for some time now has been very bearish. Sidestepping that conclusion turns out to be a lot harder than you think.
The CAPE is the version of the traditional P/E ratio that has been championed by Yale University finance professor (and recent Nobel laureate) Robert Shiller. Currently, for example, the CAPE stands at 25.69, which is 55% higher than its average back to the late 1800s of 16.55 and 61% higher than the ratio’s median level of 15.95. In fact, there have been only three times since the 1880s when the CAPE has been higher than where it stands today: 1929, 2000 and 2007 — all three of which, of course, coincided with major market highs.
The CAPE isn’t a perfect indicator, as Shiller himself will tell you. There are legitimate reasons to question its approach to market valuation. In addition, the bulls have shamelessly come up with myriad other “reasons” not to pay attention to it.
But Mebane Faber, chief investment officer at Cambria Investment Management, has this to say to all these so-called CAPE haters: “Fine, don’t use it. Let’s substitute in book and cash flows, two totally different metrics.”
Unfortunately for the bulls, the conclusion of looking at the market from those alternate perspectives is almost identically bearish.
Courtesy of data from Ned Davis Research, Faber ranked 43 countries’ stock markets around the world according to their relative valuations according to the CAPE as well as to cyclically adjusted ratios of price-to-book, price-to-cash flow, and price-to-dividend. When ranked according to the CAPE, for example, with top ranking going to the most undervalued country’s stock market, the U.S. is in 41st place. Only two countries are more overvalued according to this indicator.
| Indicator | US market’s rank out of 43 countries, with #1 being most undervalued |
| CAPE | 41 |
| Cyclically-adjusted price-to-book ratio | 37 |
| Cyclically-adjusted price-to-dividend ratio | 39 |
| Cycilcally-adjusted price-to-cash-flows ratio | 36 |
The accompanying table shows where the U.S. market would rank according to the other three indicators. Notice that ignoring the CAPE doesn’t get the bulls very far.
To argue that the U.S. stock market isn’t overvalued, in other words, the bulls not only have to dismiss the CAPE but also argue why the U.S. market should be priced so richly relative to book value, cash flows and dividends.
That’s not necessarily impossible. But it is clear that the bulls have a lot more work cut out for them.
Furthermore, even if the bearish conclusions of these diverse indicators turn out to be right, you should know that they are long-term indicators, telling you very little about the market’s near-term direction. My favorite analogy to describe the situation comes from Ben Inker, co-head of the asset-allocation team at Boston-based money management firm GMO.
He likens the market to a leaf in a hurricane: “You have no idea where the leaf will be a minute or an hour from now,” he says. “But eventually gravity will win out and it will land on the ground.”
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Since there are no concrete guideposts to market behavior, we must conclude that a considerable amount of subjectivity drives value determination and price.
Today, essentially everyone is depending on the status quo, “Plan A,” to carry through.
This means (to me) that while one may criticize a component of this monetary/financial/economic paradigm or another, the notion that the entire program is a mirage, an ILLUSION, is simply invisible to most eyes.
I believe this is the reason that the Fed has been successful, so far, in creating astronomical amounts of credit from nowhere, which has flowed largely through to CONgressmen, who have helicopter-dropped all that loot onto the Military, Medical, Higher Ed and Banking cartels.
These are the areas still booming. Monetary debasement is pushing the entire economic boat to list to port, where those four cartels are situated.
As the ship tilts leftward, people CAN’T SEE IT, because their entire self-interest is wrapped in a fog of belief.
Stocks rise, and rise and rise and rise and rise. Parents encourage their kids to become doctors, nurses, physical therapists, and pharmacists. Ambitious people flock to Wall Street, hoping for a shot at the hundred million dollar brass ring.
Yet the deck of the ship tilts to port so much it makes walking difficult. Even those who can see the listing ship think, “Hey, both times stocks got cut in half, they came roaring back (and MORE!) so why worry?”
When this ship goes this time, it’s going to the the Poseidon Adventure.
Not many people are going to enjoy it.
dc.sunsets – Not many people are going to survive it. BC-LR to all
Go long Hussman funds, maybe he will increase the fee structure. He has a PHD , he must know what hell is goin on, eventually he is going to be right.
@ AR
It depends on what part of the spectrum of paths our future follows, does it not?
Do we follow Plan B? (things get Great Depression level ugly, a bit worse than now but otherwise the system survives.)
Do we follow Plan C? (SHTF, there’s rioting, some looting, unprecedented unemployment and limited skirmishes between citizen and rulers, but after the spasms are over, it settles into a familiar mode where no one starves or freezes to death in the winter.)
Do we follow Plan D? (The main institutions on which we depend close up shop, from banks to gas stations and utilities, while every level of government goes Full Robber and tries to tax-seize everything visible while people starve and freeze.)
Do we follow Plan F? (TEOTWAWKI, the USA breaks up into smaller polities, the FSA burns their neighborhoods to the ground, then dies like legions of zombies under withering gunfire or freezes to death in winter while survivalists declare war on preppers and we wonder if all these zombie apocalypse books and movies were scripting our future.)
Maybe I should designate the FSA-as-Zombies Plan Z?
Heck if I know what’s going to happen. People are resourceful, innovative, and crave survival and order. I suspect the future will follow paths none of us can foresee, and no matter how hard we try, we’ll be surprised and unprepared for parts.
I just know I would NOT want to be one of the dependent masses when 1) the government tit runs dry, and 2) the people being milked to provide that tit let their RAGE loose at being so milked.
>50% of potential voters may be net takers, but if the consent of the taken-from’s evaporates, the “voluntary” tax system on which this whole charade rests could collapse.
While I have been labeled a bull on equities, it is only because the alternatives are so far worse, including zero-yielding cash. The central bankers are so consumed with riding the rescue for wages, income inequality and labour market slack, that they have either forgotten or dismissed the huge distortions their actions are having on financial market activity.
To be sure, in this world of relativity, equities stand out. But rest assured that relative valuations have been influenced — dare, I say, distorted — by central bank interventions that have gone global.
But as a standalone, not as a relative comment, let it be known that these central banks have turned a blind eye to the excesses in the financial markets. The price-to-sales ratio for the S&P 500 has soared to 1.77x — actually taking out the 2000 bubble high to register the highest reading on sixty years. Hey, maybe it is totally justified across a broad array of measures. Frankly, I don’t care. Price-sales ratios are at sixdecade highs. Use that information any way you like.
These valuations only make sense in the environment we are in — the environment of central banks suppressing the cost of loanable funds at or near zero. It won’t last forever, but let’s all try to understand that valuations are where they are because we have academics at the helm of central banks who largely have no experience in the real world of finance but have instead lived their lives in a theoretical bubble and have amazingly still not learned from the lesson of their past misadventures of creating financial excesses because they feel the need to deal with structural issues that actually lies at the door of the Congress and White House.
The party continues but down the road, understand … this will likely not end very well.
David Rosenberg