Thursday, November 28, 2013

No, we are not in a Bubble

A lot of talk on Wall Street on whether the stock market is significantly over-valued, that is, are we in a bubble.  Everyone has an opinion.  Including me.

People compare to the bubbles of 2000 and 2007 and see many of the same metrics in our current market.   And it is true that some of the same metrics are in place.  Particularly regarding the S&P 500.  The $SPY is at all time highs, is trading at 16 times earnings and has a historically high CAPE ratio.

The problem with this analysis is that is really wasn't the S&P that was in the bubble in those years.  The bubble was really in other areas and when it popped, spread to the S&P.

In 2000 it was the NASDAQ, particularly the internet tech sector.  The NASDAQ composite skyrocketed to 5,000 (it is still only recovered back to 4,000) and when it crashed, took down everything else, including the staid old companies in the S&P.

In 2007, it was housing that was in a bubble.  House prices escalated to ridiculous heights that couldn't be justified by rents.  Prices still haven't recovered to bubble levels in most areas.  The crash in housing brought down the big banks which were part of the S&P.  

Some bubbles don't have an impact on the overall market.  Gold has crashed (by any measure) from 1900 to 1200 with nary a hint of contagion on the broader market.  Years ago, oil when from $35 a barrel to $150 and back again.  There were some minor disruptions, but certainly not a crash in the general market.

Therefore, in my opinion, there currently isn't a bubble in any sector that will have a damaging effect on the general market.  It may get there, but right now, prices are going up in an orderly fashion.  If you are looking for a crash, find a sector that is way overpriced and see if it can blow up the rest of the market when it falls.

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