Dow Jones Industrial Average (DJIA) futures collapsed in early trading Wednesday, pointing to a weak stock market open. And according to Warren Buffett’s favorite stock market indicator, this could be the start of a bigger downward trend.
The ‘Buffett indicator’ puts US stocks at their most overvalued level since the peak of the 2001 dot-com bubble. No wonder theOracle of Omaha has been hoarding cash, perhaps anticipating a stock market correction.
Dow futures plunge 100 points on Wednesday
After amonster stock market rally on Tuesday,Dow Jones Industrial Average (DJIA) futurespoint to a weak open on Wednesday. The futures contracts traded 100 points lower in pre-market.
S&P) futuresandNasdaq Composite futuresfell 0. 34% and 0.3% respectively.
Buffett indicator at ‘extreme danger’
The chart plots the total market capitalization of all publicly traded US stocks against GDP. Buffett famously called this indicator:
“The single best measure of where valuations stand at any given moment. ”
The indicator currently reads 139%, higher than the peak of the dot-com bubble. A reading of 100% is considered dangerous. A reading of 140% is considered “extreme danger.”Investopedia advises that a safe level to enter the market is 70 – 80%.
Why is this indicator better than the typical price / earnings (P / E) ratio for pinpointing an over-priced Dow Jones? According to Global Macro Monitor,P / E can be easily manipulated by stock buy-backsand accounting tricks. The Buffett indicator is a stronger long-term, macro predictor.
Dow could still climb higher yet
Although the ratio is hovering at extreme danger levels, the Buffett indicator isn’t a reliable short-term trading tool. It offers a much broader, macro overview of market conditions.
“ While this indicator is a general gauge of market valuation, it’s not useful for short-term market timing ”-Advisor Perspectives.
Indeed, the gauge has been at dot-com bubble heights for over two years. In other words, it’s not an immediate trigger and the Dow Jones could pump higher before a correction materializes.
Warren Buffett waiting for a stock market pullback?
Much has been written about Warren Buffett’s record $ 122 billion cash pile at Berkshire Hathaway. Analysts, including our own at CCN, have suggested thatBuffett is taking a defensive position in anticipation of a market correction.
If he’s right, and the stock market reverses, Buffett will have $ 122 billion on hand to buy up discount equities. This tactic has riled some investors though, including billion-dollar money manager David Rolfe at Wedgewood Partners. Rolfe pulled his $ 10 million stake in Berkshire Hathaway andaccused Buffett of thumb-sucking.
“Thumb-sucking has not cut the Heinz mustard during the Great Bull Market. The Great Bull could have been one helluva an astounding career denouement for Messrs. Buffett and Munger. ”
If the Buffett indicator is right, however, the Oracle of Omaha will be richly vindicated for staying on the sidelines.
This article was edited bySamburaj Das.
Last modified (UTC): October 16, 2019 10: 44
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