S&P 500 / Gross Domestic Product for the World
A slight twist on a classic valuation indicator
Dividing the S&P 500 by Gross Domestic Product is a classic valuation indicator. And, with the market at all time highs and GDP slowly plodding along since the financial crisis, it has reached levels not seen since the tech bubble. That’s obviously a concern.
But, the world is a very different place than it was since 1999. One of the many things that has changed since then is the collective growth of many countries around the world beyond just the US. This is very apparent when you look at a chart of GDP for the world.
With all that growth, you can be sure that corporations have found a way to cash in. If companies are making lots of money from more than just the US, then does it still make sense to take the collection of multinational corporations in the S&P 500 and divide it by just US GDP? Let’s try replacing it with GDP for the world:
To be honest, I actually thought there would be a larger deviation between the two trends. However, the biggest divergence has come in the last twenty years, when globalization really took off.
Divergence creates some challenges with interpretation. The US indicator says that stocks are as overvalued as they were during the tech bubble, suggesting potential trouble ahead. On the other hand, the world GDP version is well under the last peak, suggesting stocks have plenty of room to run.
Ultimately, this is a great example of how very similar types of data using the same analysis can lead to different conclusions. Everyone has their own biases and preferred approaches to doing things but the real conclusion from this is that we should always seek more information before making up our minds.
If we had ten valuation indicators and two were pointing to overvaluation, maybe we feel more confident that things are correctly priced. If all ten are running red in crazy overvaluation territory, maybe we are more confident in our story of overvaluation. Also, why have just ten? That’s why I chose the name Endless Metrics - the search for more indicators never ends!
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Related content:
Gross Domestic Product for the World
S&P 500 / Gross Domestic Product
The Dow Jones Industrial Average