According to US stock market and GDP data, the Warren Buffet indicator reached 220%.
This ratio compares the total amount of American stocks to the size of the economy. The last market that grew like this was during the dot-com bubble, which peaked at 190%.
The indicator moves as the market value can swing every day while the economy grows at a more stable pace. The latest figure is about 68.63% higher than the long-term average and equals about 2.2 standard deviations than the trendline.
Analysts say this indicates a strong overvaluation of GDP.
Warren Buffet Indicator Connects Stocks to GDP
The Buffett indicator explains how big the US market is compared to the economy itself. If inventory values grow faster than GDP, it indicates that the stock may be in the bubble territory.
However, this measure only examines the size of the market and excludes how these stocks compare to safer investments like bonds.
Interest rates change how attractive each option looks. When prices rise, bonds pay higher returns and pull investors away from the stock.
Companies also push stock prices down by making borrowing more expensive, increasing interest invoices and lowering profits. When the rate drops, the opposite happens. Bonds lose their appeal, borrowing is cheaper, profits rise, stock prices rise.
Over the past 50 years, the US Treasury’s 10-year yield averaged 5.83%. At the top of the dot-com bubble, the yield is even higher, at around 6.5%, indicating that investors already have strong alternatives to the stock.
But people still flooded with stocks and created a crash afterwards.
Interest rates drive investors’ decisions
Today, the buffet indicators are far above historic range, but interest rates remain below average. Currently, the 10-year yield is 4.24%.
This means that fewer investors are looking for returns from bonds than previous generations have received. Limited options force more capital into stocks, inflated stock prices far beyond the actual economy.
This difference is important. During the year DOT COM, investors were able to earn solid income from the Treasury, but they still ran recklessly into high-tech stocks.
Now, investors are continuing to push their money into stocks as they face weaker bond returns. As a result, the ratio skyrocketed to 220%, even higher than in 2000.
Extreme reading does not justify yourself about the basics. Still, it does not show the same immediate collapse risk seen 20 years ago.
As long as interest rates are relatively low, the market may remain abnormally high. Investors seeking returns continue to pursue risk assets, and that trend has lifted Buffett’s indicators to this historic point.
