Update: 2/22/21

In News by admin

With stocks powering to new highs on an almost daily basis over the past few months, it seems like a good time to start asking questions such as:

  • How long can this keep going on? (Quick answer: who knows?)
  • Are we headed for a pullback? (Quick answer: also, who knows?)
  • Aren’t stocks expensive?  (Quick answer: It depends.)

In the absence of a crystal ball for the first two questions, it’s the third question that we’d like to examine in some greater detail here.  True, after the incredible run stocks have had following the Covid-induced scare of last March prices have surpassed their previous lofty levels and risen even more. A quick glance at the market capitalization of the companies in the S&P 500 (the total market value of all the companies in the index) shows that it recently hit $31 trillion. That is more than double the peak levels reached before the large market corrections in 2000 and 2008.

bubble chart SNP

If we stop here and take it at face value, stocks look incredibly expensive and, if we’re being honest, a little scary.  But one major factor to consider is the absolutely massive amount of money the Federal Reserve has been printing since the global financial crisis in 2008 and more recently, as a result of the pandemic.  We can make a simple adjustment to account for the amount of money sloshing around in the financial system by dividing the S&P’s market capitalization by M2, which is the Federal Reserve’s broadest measure of money supply.

Bubble chart SNP

This adjusted market cap looks much less lofty and has been pretty much unchanged since 2015.  It’s also well below the levels that preceded the 2000 and 2008 corrections.  In plain English, what the chart is telling us is that while absolute stocks valuations have indeed been skyrocketing (the purple line) relative valuations have been much more stable.

Now the fact that it’s taking more and more money to push the index to new highs is a story for another day. But adjusting for the amount of liquidity in the financial system should increase everyone’s “sleep-at-night” factor.  At least a little….

Sincerely,

Jim, Mark, and Dave

p.s. To speak with a financial advisor, click on the calendar app below, go to ValueMonitoring.com/Welcome.