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Katchum
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Albert Sung is the author of Correlation Economics, monitoring breaking economic news on a day to day basis. He started investing in 2008 because of the economic crisis and holds a masters degree in chemical engineering. Previously, he worked several years as a process engineer at Ashland, a... More
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Correlation Economics
  • Correlation: Total Stock Market Index Vs. GDP: How To Value Dow Jones 2 comments
    Feb 16, 2013 10:33 AM | about stocks: DIA

    Today I learned about the Warren Buffet valuation of the stock market by looking at the total stock market index and GNP numbers (which is almost equal to GDP numbers + $200 billion).

    The total stock market index can be found here and stands at $15.879 trillion on 15 February 2013 (Chart 1). It measures the market cap of the U.S. companies. Don't confuse this chart with the Dow Jones chart.

    (click to enlarge)

    Chart 1: Dow Jones U.S. Total Stock Market Index

    Now you compare that to the U.S. GDP number, which can be found here (Chart 2).

    (click to enlarge)

    Chart 2: U.S. GDP

    If you then divide Chart 1 by Chart 2, you get Chart 3. If the chart goes above 100%, then the stock market is overvalued.

    (click to enlarge)

    Chart 3: Market Value to GNP ratio

    Here is the table for valuation:

    Chart 4: Valuation Table

    For example, in December 2007, the GDP was $14.25 trillion, while the total market cap was $15 trillion. 15/14.25 = 105%. Meaning overvalued.

    For example, in December 2008, the GDP was $14.08 trillion, while the total market cap was $8.78 trillion.

    8.78/14.08 = 62%. Meaning severely undervalued.

    So today, you could say that stocks are becoming overvalued, so you should take some of your money out of the stock market while you still can.

    There is a final note I want to make. If this correlation is true between the Total Stock Market Index and GDP, then you have to take in mind that GDP is very important to watch. If the GDP drops, then the stock market will most likely drop. If the GDP rises, then the stock market will most likely rise.

    I pointed out many times that U.S. GDP will not go up, due to the zero hour debt problem, which I talked about here. So theoretically, the stock market cannot rise.

    The only way to get GDP go up again is when debt is significantly reduced and we're not at that point yet.

    Stocks: DIA
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Comments (2)
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  • wildcatter blue
    , contributor
    Comment (1) | Send Message
     
    Admittedly I am a novice investor but curious to understand how debt impacts GDP? Understandably it impacts the country wrt financing...therefore constraining our growth prospects?
    12 Aug 2013, 09:11 PM Reply Like
  • Katchum
    , contributor
    Comments (556) | Send Message
     
    Author’s reply » If you have a lot of debt, you will have a lot of interest payments. That capital will flow out of your country to other countries and will not be available for investment. It also implies that you will have a lot of taxes to pay for those interest payments and taxes will always restrain growth.
    14 Aug 2013, 01:04 PM Reply Like
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