If you have been around long enough, you may remember that during the first decade of this century, the U.S. market returned almost nothing. You would have been much better off if you had put your money into short-term Treasury bonds or CDs instead of stocks back then even if you did not touch the money for 10 years. You could have gotten decent returns without risking your investment principal.
Now seems to be that kind of time again.
The Buffett Indicator has been warning us that the U.S. stock market is significantly over-valued for a long time. But due to zero interest rates on short-term Treasuries and CDs, it still paid to invest in stocks over the past several years. As the interest rate went up in the last few months, that is not the case anymore.
The ratio of total market cap (TMC) over GDP is now above 140%, which is close to what it was back in 2000. Back in 2000, the Buffett Indicator predicted that the stock market would return almost zero in the next eight years if the ratio of TMC/GDP reverted to 80% by 2008. The performance of the stock market during the first decade of the century proved the prediction of the Buffett Indicator.
Back in 2000, the two-year Treasury yield was above 6%, which was higher than even the wildly optimistic annualized return projection of 5.4% when assuming the ratio of TMC/GDP reverted to 120% by 2008. Those numbers told us that in the year 2000 it was much better to invest in the two-year Treasury, which carries almost no risk to the investment principal, instead of the stock market.
Today the situation looks very similar.
Starting today, if the ratio of TMC/GDP reverts to 80% by 2026, the stock market will return negative 2% a year over the next eight years. Even if the market stays at an elevated valuation and reverts to TMC/GDP of 120%, it will gain about 2% a year for the next eight years, which means the risk to principal is lower than the yield of the two-year Treasury. The projection was illustrated in the chart below:
So again, similar to the market valuation in the year 2000, investors are better off today putting money in Treasuries instead of the stock market. This situation has appeared only twice, and this is the second time over the last 50 years.
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