Registered Investment Adviser Caleb Lawrence
The major averages struggled in early trade entering the final hour with small losses on little real news. The Philadelphia Fed regional index gained 4.9 points in September to 23.8 on strength in new orders. The employment related components slipped but remained quite positive, prices paid jumped 13.3 points to 34.4.
There are many ways to value assets including the major averages, some better than others but none without their critics. That said as with most things related to investments, the economy and the business cycle it isn’t really about any one thing, but standing back and looking at the bigger picture or a combination of things. Some of the more common methods of market valuation include the “Buffett Valuation Indicator” named after Warren Buffet of course. It looks at the relationship between market capitalization and Gross Domestic Product or GDP over time. Now a number of indexes can be used here but obviously the larger and more inclusive indexes such as the Standard and Poors 500 or the Wilshire 5000 provide a better yardstick than the widely quoted Dow Jones Industrial Average as it features just 30 stocks. Based on second estimate data for second quarter GDP and using the corporate equities liability form the Fed Z.1 reports shows a market valuation of 131.6%, far higher than the 86.9% peak reached just before the early 70’s bear market but a little below the all-time high of 151.3% seen just before the Dot-Com crash in 2000. In 2007 this valuation metric peaked at 111% just before the last bust. Substituting the Wilshire 5000 total market index yields 129.7% currently, the all-time high set in 2000 was 136.5%, while the 2007 peak was just 104.9%. Most other market valuation metrics show a similar pattern either an all time high or close to it, as valuation is the single most important determining factor with respect to investment return it behooves an investor to pay close attention to it particularly when margin debt is at or near an all-time high concurrently.