Historical valuation based on market cap to GNP

One of Warren Buffett's favourite metrics to measure market valuation is market-cap to GNP. The Big Picture refers to a Fortune article that recently looked at this measure. I am reproducing the chart (covers until the end of 2008) in the Fortune article below:

(Source: Buffett's metric says it's time to buy, by Carol J. Loomis and Doris Burke
February 4, 2009. Fortune)


Fortune says Buffett's methodology suggests buying when market cap to GNP is around 70% to 80%, or better. If you look at the long-term, it seems to imply we are near average valuation, and just a tad lower than the peak valuations in the 30's and 60's. So, although some may consider valuations attractive, I personally don't think stocks are cheap. Stockpickers can start looking at individual stocks but, for others, making macro bets seems kind of dangerous. The market can easily rally and end up strongly positive this year. But the question is whether you are actually buying something at low enough valuations to avoid negative surprises down the road.


(You might want to consider this chart along with my thoughts on the long-term P/E and the short-term P/E.)

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