'The best single measure' of stock-market valuations is high and bearish

By Mark Hulbert

The monthly review of stock-market valuation indicators

The Buffett Indicator-the ratio of the stock market's total value to GDP, which Warren Buffett (BRK.A) (BRK.B) said is "probably the best single measure of where valuations stand at any given moment"-is now higher and more bearish than it was at the January 2022 market top.

In fact, as you can see from the accompanying chart, it's even far higher than it was at the top of the Internet bubble in early 2000.

I nevertheless think it would be a bad idea to bet that the stock market will fall over the next year.

Contradictory as these two observations might seem, however, they are consistent with each other. Like almost all other valuation indicators with good long-term records, the Buffett Indicator tells you next to nothing about the stock market's near-term direction. Its greatest explanatory power exists over a many-year horizon. This means that, from the point of view of the Buffett Indicator, the market's direction over the next year is a coin flip-but over the next decade it's most likely to be well below average.

This crucial role played by investment horizon is illustrated in the accompanying chart, which reports the Buffett Indicator's predictive power for horizons from as short as one year to as long as a decade. The chart plots a statistic known as the r-squared, which would be 0% if the Buffett Indicator had no explanatory power; notice that it is very close to zero at the one-year horizon.

The Buffett Indicator is not unique in this regard. The same is true for each of the valuation indicators at the end of this column.

The r-squared grows steadily as investment horizon expands, however. Given the Buffett Indicator's bearish posture currently, this means that while we don't know the direction the stock market may take over the next decade, it's likely to have produced a below-average return between now and 2034. My favorite analogy for this comes from Ben Inker, head of asset allocation at Boston-based GMO. Likening the market to a leaf in a hurricane, he says, "You have no idea where the leaf will be a minute or an hour from now. But eventually gravity will win out, and it will land on the ground."

How valuation models stack up currently

Reinforcing this bearish conclusion is the status of the other valuation indicators listed in the table below. They are uniformly bearish for the stock market's prospects over the next decade.

Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at mark@hulbertratings.com.

-Mark Hulbert

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04-22-24 0746ET

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