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Undervaluation Recedes As Market Improves

Market Valuation

It's time for our monthly look at our overall market valuation figures. The ValuEngine Valuation Model tracks more than 8000 US equities, ADRs, and foreign stock which trade on US exchanges. The model calculates a level of mispricing or valuation percentage for each equity based on what the stock should be worth if the market were totally rational and efficient--an academic exercise to be sure, but one which allows for useful comparisons between equities, sectors, and industries.

We use this metric to get an overall snapshot of the market and to discern if stocks are a bargain or overpriced. In the past, the valuation figures have correlated fairly well to market tops and have signaled impending pull backs. Whenever we see overvaluation levels in excess of @ 60% for the overall universe, we issue a valuation watch. We do not have a similar metric for the undervaluation levels, but we generally find that when stocks are calculated to be more than 75% undervalued overall it is time to do some bargain hunting.

In the chart below, you can see that our Valuation Model finds that the market is in a range of undervaluation just above what we would consider "normal." We cannot really say that things are at a level where stocks may be considered "cheap." Back in early June we had levels around 80% but since then they have receded and keep flirting with "normal" range. From this chart it sure seems as though "Sell in May and Go Away" may not hold this year--the S&P 500 is up 6% since June 1st., but that is to be expected when there is a US presidential election.

For reference, here is a longer-term chart which tracks the metrics back to March, 2010. Note that undervaluation levels peaked in excess of 90% last Summer.

And finally, here is the chart tracking the levels back to March, 2007. As you can see, elevated undervaluation levels can persist for long periods of time.

We will continue to watch and track our valuation metrics so that we may add to our data set.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.