Is the Market Overvalued?


There’s an interesting discussion in the NYT regarding changes in investor optimism since the correction began late January. Nothing groundbreaking, but it surveys several strategists, and best of all, has a terrific graphic (below).

One minor observation: The S&P500 did have a 5%+ correction since then, at least measured peak to trough. The article suggests the 5% SPX retrace hasn’t happened yet; It has: From March 7th’s high of 1163.23 down to March 16th’s low of 1102.61 is 5.21%.

The significance of the 5% pullback is that historically, the point where it occurs is on average, roughly the 60% mark of a rally. That implies that we’ve achieved a little more than half of the gains we might expect before this rally is over.

I’m always surprised when I catch an error up of this sort; Sometimes its merely a definitional matter — i.e., intraday prices versus closing numbers.

Here’s an excerpt:

Indicators of investor sentiment show that the bullishness of early this year has receded. That is a positive development, because many analysts see extreme bullishness as a signal to sell stocks. The two-week average of the bullish sentiment index of the American Association of Individual Investors was at 84.8 percent on Jan. 23, the highest reading since the survey began in July 1987. By last week, that reading had fallen to 58 percent.

In addition, measures of trading volume and the ratios of advancing and declining stocks indicate that the market is oversold because most of the trading volume is concentrated in declining stocks, according to Ned Davis Research. For those who follow these gauges, the data do not yet send a buy signal, but they do show an improving market environment.

click for larger chart
Source: NYT

As we have discussed, breadth continues to be a strongest evidence that the Bull run is not over:

Other data indicate that investors are still buying in many sectors of the market – something they were not doing during the technology-led approach to the collapse in 2000. Broad demand for stocks can be measured in the weekly number of issues hitting new highs and new lows on the New York Stock Exchange. For the week ended March 12, there were 592 new highs, compared with only 38 new lows.

The article also quotes Tim Hayes, global equity strategist at Ned Davis Research. Hayes wrote “The Research Driven Investor, which I read several years ago. Its not light reading by any stretch of the imagination, but its a terrific starting point for anyone interested in market modeling or quantitative analysis.

Time for Optimism? Pessimism? Pick Your Gauge
Jonathan Fuerbringer
N.Y. Times, March 21, 2004

Chart: Is the Stock Market Overvalued?

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  1. anne commented on Mar 21

    In fact the S&P at close went from 107.12 to 102.32 for the Vanguard Index. The number then comes to 4.48%. Them’s the facts for closing.

    The trailing p/e ratio without losses on February 27 was 20.76 which does not worry me, though the market may go up or down or stay level for while. Also, write offs for losses have declined rapidly. This is not a cheap market, but not a market to fret about unless an investor fears there is bound to be a regression to a mean p/e of 15. Even so, an investor shop about even if indexing.

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