I provided an update almost half a year ago on where the market valuation is at that point in time. You can read the article here. The market was obviously much more bullish back then. I remember the index going up and up and there is only one way the market was going to go. Everyone was bullish and our local STI index has even hit the 3,500 point. Everyone was putting their guard down.
Then Black Monday came and the market went into correction mode since then. At one point, STI even came close down to a bear territory before bouncing back to where they are now. The mood in the market was visibly much more cautious than where they are half a year ago.
1.) Market Capitalization to GDP (Buffett Valuation Indicator)
The market cap to GDP ratio, also dubbed the Buffett valuation indicator, is a long term ratio used to determine whether an overall market conditions is undervalue or overvalued. As the ratio suggests, a ratio that is greater than 100% is known to be overvalued while a value below 100% is known to be undervalued.
The ratio approached the highest at 127.4% in the 2nd Quarter and it kind of digress down a little bit now to 118.8%. Even though the figure has dropped, it still suggests that the market is overvalued and still above +1.3 SD on the average mean for the past 65 years or so.
2.) Q-Ratio (Developed by Nobel Laureate James Tobin)
The Q Ratio is an indicator of the total market value divided by the replacement cost of the overall market. This is a little bit like measuring the Price to Book where the earlier was like the Price to Earnings. Again, anything above 100% represents overvaluation while anything below represents undervaluation.
Back in the 2nd quarter, the ratio was as high as 1.11, and again it has dropped down to 1.03 now, though it is still at +1 SD above the mean. The ratio went up to as high as 1.64 during the tech bubble and you can see in one of those years they represent a crash in the market.
By now, you should realize that this is just an indication and by no means it gives a call to go right into cash. High can mean that it can stay high for years and you can be missing all the opportunity loss if all you are waiting for is a crash. Ultimately, if you are an individual stock picker, the valuation of the company itself is more important than using the general macro economic trend and ratio to justify your decision.