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James Li
James Li
Articles (1245)  | Author's Website |

Warren Buffett’s Market Indicator Reaches 144% Heading Into June

US market returns to significant overvaluation as economy reopens

On Monday, Berkshire Hathaway Inc. (NYSE:BRK.A)(NYSE:BRK.B) CEO Warren Buffett (Trades, Portfolio)’s favorite market indicator reached 144%, up approximately 8% from the May 1 level of 132.4%.

The ratio of total market cap to gross domestic product tanked from the February high of approximately 155.1% to a March low of approximately 111.5% as investors began grappling with coronavirus-driven shutdowns of global economies. However, markets surged over 12% in April as investors cheered the reopening of economies, including the U.S.


Dow reverses early losses as investors continue betting on economy reopening

The Dow Jones Industrial Average bounced from an intraday low of 25,220.66, closing approximately 90 points higher from last Friday’s close of 25,383.11, as investors continue riding momentum from the U.S. economy reopening following a near-two-month shutdown due to the coronavirus outbreak, which rapidly increased in the U.S. during March and early April.


Stocks in the airline, travel and leisure industries helped propel markets in the morning. Hilton Worldwide Holdings Inc. (NYSE:HLT) , one of Bill Ackman (Trades, Portfolio)’s holdings, increased over 3%. Additionally, American Airlines Inc. (NASDAQ:AAL), Delta Air Lines Inc. (NYSE:DAL) and United Airlines Holdings Inc. (NASDAQ:UAL) increased between 3% and 7%.

Buffett indicator breaks 144%

On May 27, the Dow closed above 25,000 for the first time since March 10, right before the 30-stock index tanked below 20,000 as a result of the virus outbreak. Consequently, Buffett’s favorite market indicator eclipsed 144%, approximately 4% higher than the March 1 reading of 139.90%, yet still approximately 9% lower than the February high of 155.1%.


For the predicted and actual returns chart, we consider the following three scenarios given that the current Buffett indicator value is 144%:

  • If the Buffett indicator reverts to a value approximately 1.5 times the mean of 80% over the next eight years, an optimistic case, the average market return per year is approximately 3.30%.
  • If the Buffett indicator reverts to the mean of 80% over the next eight years, the expected case, the average market return per year is approximately -1.50%.
  • If the Buffett indicator reverts to a value approximately just 50% of the mean of 80% over the next eight years, a pessimistic case, the average market return per year is approximately -9.20%.


Shiller price-earnings ratio bounces from five-year low

Yale professor Robert Shiller developed an alternative market valuation ratio that uses a cyclically-adjusted price-earnings calculation. As of Monday, the Shiller price-earnings ratio for the Standard & Poor’s 500 index stood at 28.8, approximately 69.50% higher than the historical mean of 17.


According to CNBC, Howard Silverblatt, senior index analyst at S&P Dow Jones Indices, observed that the S&P 500 has rallied over 36% from its March 23 low and is now trading at a “gaudy” 27.7 times expectations for 2020 earnings. Silverblatt figured that the market is “pricing an aggressive economic recovery” following a coronavirus-driven lockdown over the past several months. The implied market return based on the Shiller market valuation is approximately -0.80% per year.

Disclosure: No positions.

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About the author:

James Li
I am an editorial researcher at GuruFocus. I have a Master's in Finance from SMU, and I enjoy writing reports on financial trends and investor portfolios. Follow me on Twitter at @JamesLiGuru!

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