I have updated all my market valuation data (see links below) as of the close on September 1, 2010. I make no attempt to time the market using these valuations. These are simply another set of tools to try to, “Be Fearful When Others Are Greedy And Greedy When Others Are Fearful.” As these indicators rise, you should be increasing cautious about committing capital. Conversely, you should look for periods such as March of 2009 to commit funds. Obviously, nobody can predict WHEN extreme price levels will reoccur. What is certain is that they WILL reoccur. Currently, stocks are attractively valued compared to bonds. What is unusual here is the extremely low yields that investors are accepting from bonds. These seem to indicate that many market participants are fearful and uncertain. The good news for investors is that it is quite easy today to put together a basket of high-quality stocks with an earnings yield materially higher than that of the S&P 500 and double that of high quality corporate bonds. Plus the yield on the basket of stocks can be expected to grow over time. The Bottom Line and a Word of Caution The market as a whole is not compellingly undervalued. But, given the low yields on bonds, the odds seem to favor equities. As a final word, never invest without a clearly identifiable margin of safety. Think about the downside first. What could go wrong? What are you missing? Why are people willing to sell me this stock if it’s so attractively valued? Are they selling because they have better information or are they acting irrationally? If you’re not sure, take a pass. Buffett has said on more than one occasion that many have recognized the same values he has seen and acted on them. What is different is that those same investors have taken undue risks and invested outside their circle of competence thereby diluting – or destroying – their overall returns. Market Valuation Data: S&P 500 Yield vs. 10 Year AA Corporate Bond Yield S&P 500 Yield vs. 10 Year U.S. Treasury Total U.S. Market Cap / U.S. GDP – This is Buffett’s favorite market valuation metric. According to Buffett, “If the percentage relationship falls to the 70% or 80% area, buying stocks is likely to work very well for you. If the ratio approaches 200%–as it did in 1999 and a part of 2000–you are playing with fire.” Disclosure: No positions
