I ran across a Bloomberg article quoting Andrew Smithers as saying that the stock market is overvalued by 40%:
The U.S. Standard & Poor’s 500 Index is about 40 percent overvalued and headed for a drop as central banks pull back on securities purchases that pushed up asset prices, according to economist Andrew Smithers.
Declines are likely because banks will need to sell more shares to raise capital, the economist and president of research firm Smithers & Co. said in an Oct. 23 interview at Bloomberg’s Tokyo office. The closing price on Oct. 23 of 1,079.6 was 40 percent above 771.14, a level last seen in March, according to data compiled by Bloomberg.
“Markets are very vulnerable to an end of quantitative easing,” said Smithers...
Andrew Smithers, for those familiar with him, is famous for maintaining and evaluating market valuations based off the q ratio. The following chart, courtesy Smithers & Co, shows the current state of affairs:
The CAPE (aka cyclically adjusted P/E ratio; aka Graham-Dodd 10 year P/E ratio) also suggests that the market is overvalued by 36.5% as of September 17 of 2009.
Valuations measures such as these are why I have stayed away from the market. However, you need to keep in mind that these valuation measures move very slowly. If you strictly followed these measures, you may remain out of the market for a long time—possibly even decades. Smithers appears to have remained out of the market since the late 90's and only came into the market in the last year, and that is extremely difficult for most people.
Furthermore, the overvaluation does not necessarily mean that the market will plunge; it is possible that the market goes sideways for five to ten years.
Smithers also had some interesting comments about Japan in that Bloomberg article:
Not all equity markets are as overpriced as the U.S., Smithers said. Japan may be the world’s cheapest major market though he doesn’t forecast short-term gains from betting on the nation’s stocks.
Profit margins at Japanese companies are likely to improve as companies invest less, lowering depreciation costs, he said. Depreciation eats up about two-thirds of earnings in Japan, compared with less than half for U.S. corporations, according to Smithers. Firms plan to cut capital spending 10.8 percent this year, the Bank of Japan’s quarterly Tankan survey released this month showed.
“It’s quite likely that Japan is the only significant market in the world that is not seriously overvalued,” he said. “When investment comes down, depreciation comes down.”
Japan has a bunch of other issues that may weigh it down—in fact some bears are claiming that the Yen is going to collapse due to their high debt levels—so it's not clear how much this investment/depreciation issue matters. In any case, it's an interesting thought.
Tags: Japan, market valuation