US stocks are overvalued and at high risk of tumbling further according to Warren Buffet's favorite market gauge.
The "Buffett indicator" takes the combined market cap of all actively traded US stocks and divides it by GDP. The stock market's value is compared to the size of the economy by investors.
The Wilshire 5000 Total Market Index has plummeted 25% this year due to the decline in the S&P 500 and other major indices. The market-cap index was close to its June low of $36.36 trillion.
The Bureau of Economic Analysis has an estimate of GDP for the second quarter. The indicator went from over 210% at the start of the year to over 141%.
In 2001, he implied in a Fortune article that stocks would be fairly valued with the gauge at 100%. He wrote that buying stocks at a 70% or 80% level is likely to work very well, but would be playing with fire around the 200% mark.
The billionaire investor said his indicator is the best single measure of where valuations stand at any given moment. It should have been a very strong warning signal when it went up in value.
The CEO's go-to gauge appears to have shown its worth once again, given the decline in the stock market.
It's worth pointing out that the preferred gauge has flaws. It compares the stock market's current value with a GDP reading. The value of US companies' domestic and foreign operations are reflected in their market caps.
The St. Louis Fed has a version of the Buffett indicator.
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