Warren Buffett's Market Indicator Drops Below 125% Ahead of Christmas

Berkshire Hathaway Inc. (BRK.A, Financial)(BRK.B, Financial) CEO Warren Buffett (Trades, Portfolio)’s favorite market indicator tumbled to 124.6% on the Friday before Christmas, down nearly 12.4% from its Dec. 3 reading of 137%. Based on this valuation level, the U.S. market is expected to return -0.2% per year over the next eight years.

Dow continues sharp losses from past two days on possible government shutdown and escalating trade war fears

Although the Dow Jones industrial average traded at an intraday high of 23,250.48 Friday morning, the 30-stock index closed at 22,445.37, down approximately 414 points from Thursday’s close of 22,589.60 and approximately 878 points from Wednesday’s close of 23,323.66 primarily due to escalating government shutdown and U.S.-China trade war fears. While CNBC columnist Thomas Franck listed several contributing factors to Friday’s morning rally, which included footwear giant Nike Inc. (NKE) reporting strong earnings results for the quarter ending Nov. 30 and Federal Reserve Bank of New York President John Williams’ comments about how the central bank might reassess interest rate policy and balance sheet reduction, Franck also said President Donald Trump’s trade advisor Peter Navarro told Nikkei “it would be difficult for the U.S. and China” to agree to a permanent trade deal despite announcing a 90-day ceasefire. Major technology stocks, including Facebook Inc. (FB, Financial), Microsoft Corp. (MSFT, Financial) and Buffett’s top holding, Apple Inc. (AAPL, Financial), tumbled approximately 7%, 3.43% and 3.88%.

The Fed’s comments on increasing the Fed funds rate from 2.25% to 2.5% and shrinking its balance sheet on Thursday sent the Dow below 23,000 for the first time since Oct. 17, 2017, when the Dow closed at 22,997.44.

In addition, Appaloosa hedge fund manager David Tepper (Trades, Portfolio) said in an email to CNBC that Fed Chairman Jerome Powell “basically told [investors] the Fed put is dead” and that “cash is not a bad investment.”

Buffett indicator still above “significant overvaluation” threshold

Although the ratio of total market cap to gross domestic product is approximately 24% below its all-time high of 148.5%, the ratio is still above the “significant overvaluation” threshold of 115%.

According to the predefined and actual returns chart, the expected market return over the next eight years ranges from -8.20% in the most pessimistic case to 4.50% in the most optimistic case. The current two-year Treasury yield is 2.63%, approximately 0.14% lower than the 10-year Treasury yield of 2.77%.

Ben Graham net-nets are on the rise

Legendary investor Benjamin Graham defined a net-net as a company whose share price is less than 66.67% of the company’s net current asset value. Graham defined a company’s net-net working capital as the sum of cash and cash equivalents, 75% of accounts receivable and 50% of inventory, less total liabilities. Table 1 shows the historical Graham counts for all GuruFocus subscription regions as of Thursday.

Table 1

We can easily see for the U.S., the U.K., Europe, Asia and India regions, the number of Graham net-net stocks have gradually increased over the past seven months, suggesting the markets in those regions are trending toward undervaluation.

Figure 1 shows the market valuation ratios for 20 global markets, while Figure 2 shows the implied market returns.

Figure 1

Figure 2

See also

Investors can still find good investing opportunities even in a volatile stock market. Table 2 lists the value screener record as of Dec. 21 for our most popular investing strategies based on investors like Peter Lynch and Buffett.

Disclosure: No positions.

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