Calling for an 80 percent drop in the S&P 500 is a bold claim, one that not too many people would make, unless they were convicted in their belief. Meet Etai Friedman, CEO of Eyal Capital Management, formerly of MKM Partners and Steve Cohen’s SAC Capital. Etai points to an oft-used metric, Tobin’s Q, to state part of his case in a series of articles describing his extremely bearish outlook of the U.S. economy.
If you missed class on the day your finance professor reviewed Tobin’s Q, here’s a quick breakdown. “The Q Ratio” was developed by James Tobin, an American Economist, who was awarded a Nobel Prize for his work in Economics. It’s actually a fairly straightforward equation: You take the total market value of the market, plus liabilities, and divide it by the book value of the market, plus liabilities.
An in-depth look of Tobin’s Q can be found in the book “Valuing Wall Street,” as well as from this link by Advisor Perspectives. However, the main point is this: Since 1900, an arithmetic mean for Q Ratio is 0.68. The highest this ratio has ever been is 1.64 during the Tech Bubble. While the lowest Q Ratio has ever been is 0.30 during the Great Depression as well as the 1982 economic recession. Etai believes that due to the Fed’s manipulation of markets, we’re heading to these lower Q ratio levels sooner rather than later.
Etai gives a brief overview of the Q-ratio:
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