The “Buffett Indicator” is signaling alarm at the valuation of the stock markets

warren
Warren Buffett

We got through the November-December correction too easily, I believe. History has taught us (at least) three things about stock markets:

  1. Stock markets are forward looking
  2. Stock markets do not do well when the global economy is facing a lot of  risks, (Brexit,  the end of the debt supercycle, Trumponomics, more Trump, China economy slowdown, Iran, Canadian debt, Canadian {lack of}pipelines, housing).
  3. Stock market over valuation is followed by underperformance.

The “Buffett Indicator”

Enter the “Buffett Indicator”. This is, according to reports, one metric that Warren Buffett uses to judge the investment worthiness of the overall market. It is essentially the ratio of the total value of the US stock market to the US Gross Domestic Product (GDP). At the moment, the ratio of 151% is close to historic levels. See the graph below:

buffett indicator

Note where the Buffett Indicator was in 2000 at 161 and again in late 2007 at 118. And think about what followed shortly there after.

Buffett’s company, Berkshire Hathaway (BRK) currently still has, according to media reports, about $100 Billion in cash (full disclosure – I am a share holder) . That is around 20% of the value of BRK. So Buffett still seems to believe that stocks are over valued.

“Be fearful when others are greedy….”

Remember also that Buffett makes his best deals when everyone else is panicking. His famous quote is “Be fearful when others are greedy, and greedy when others are fearful”. We seem to still be in the greedy phase. Don’t be greedy yet.

Rebalance your portfolio

For those of you who may say that I am being too negative, may I refer you to my October 19, 2018 post titled “When the fit hits the shan”. I have to admit that even if my timing was exceedingly lucky, I was remarkably accurate in predicting the ensuing market correction four weeks later. My opinion has not changed. Keep a well balanced portfolio and don’t be piling on excessive risk. Hopefully you rebalanced back to your target allocation already but if not, it is not too late to do so.

Please note that I am not suggesting that you try to time the market and get out of stocks. No one accurately predicts with any consistency in the short term what stock markets will do. On the other hand, it is good to have some cash on hand when the stock market corrects and the bargains become available, as they inevitably will, some day.

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