The Buffett Measure contrasts the overall worth of the U.S. stock exchange with the country’s GDP. Named in honor of Warren Buffett, a respected financier, and CEO of Berkshire Hathaway (NYSE: BRK.A), who praised it as “the most exceptional sole evaluation at any specific instant,” this ratio offers insight into whether the stock market is overly priced or undervalued compared to the wider economy.
As of July 9, the Warren Buffett Indicator hit a record level of 196.19%, representing an unprecedented milestone. This surpasses the previous peaks observed during the Dot-Com bubble, the Global Financial Crisis, and the 2022 bear market.
The shaded areas on the chart highlight significant market downturns, where stock market bubbles burst, resulting in remarkable or substantial declines, which onlookers could detect by the length of these periods.
What Makes Warren Buffett’s Measure Important?
The Buffett Indicator compares the aggregate market capitalization (stock prices multiplied by outstanding shares) of all U.S. stocks with the quarterly GDP of the American economy.
Market conditions are considered normal when the total value of the Wilshire 5000 index, which evaluates the entire market, is roughly equal to the most recent quarterly GDP estimate.
Stocks are seen as undervalued when they account for approximately 70% of GDP. Conversely, stocks trading at nearly twice the size of the economy are seen as a significant warning sign.
With a valuation surpassing 190%, the indicator indicates a substantial overestimation of the current stock market and may hint at an upcoming market decline.
What is the Precision of the Warren Buffett Measure?
Since 1971, the Buffett Measure has given cautionary signs before half of the major market declines in the U.S.
However, examining data from 2000 onwards, the measure accurately predicted around 57% of noteworthy market declines.
This could suggest that the measure is becoming more precise or that market downturns are becoming more predictable, as professionals and indicators are more vigilant than ever.
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