US Stock Market Dangerously High

US Stock Market Dangerously High, by John Hussman, a major US fund manager. The price of stocks on the broader US market, compared to the revenue of those companies, is at record high, never before achieved in all of history:


Historically-reliable valuation measures now approach those observed at the 2000 bubble peak. Yet even this comparison [of the Dow, which only has 30 of the biggest stocks] overlooks the fact that in 2000, the overvaluation featured a subset of very large-capitalization stocks that were breathtakingly overvalued, while most stocks were more reasonably valued. …

In many ways, the current speculative episode is worse, because it has extended to virtually all risk-assets. To offer some idea of the precipice the market has reached, this chart shows the median price/revenue ratio of individual S&P 500 [which has 500 of the largest stocks] component stocks. This median now stands just over 2.45, easily the highest level in history. The longer-term norm for the S&P 500 price/revenue ratio is less than 1.0. Even a retreat to 1.3, which we’ve observed at many points even in recent cycles, would take the stock market to nearly half of present levels.

The main reason is that interest rates have been at record lows since the GFC in 2008. Everywhere across the investment landscape, returns are low — because the price of assets gets bid up until their risk-adjusted returns match the interest rates in the bond markets. It’s called the “Fed model” — in the longer term, the interest rates set by the US Fed determine stock market and housing prices in the US (and to a lesser extent throughout the world).

As long as the bureaucrats keep the interest rates set at record lows, the stock market can stay elevated. But sooner or later interest rates will have to rise to their natural level of 6%, which will cause all the world’s markets to plummet. The unnaturally low interest rates are distorting the world’s economy and making it inefficient, leading to long term stagnation even while propping it up in the short term.

But since interest rates of even 6% will also cause the world’s heavily-indebted governments to pay out nearly all their tax income in interest, they ain’t going to let it happen. The situation is unsustainable, but might drag or for a decade or more yet, or maybe crash next year. No one seems to have a good idea. So no crash imminent, but watch out for rising interest rates.