Buffett Indicator Shows Nasdaq Bubble; Billionaire Says It Just Popped

The Buffett Indicator is raging at precarious records, even after the record Nasdaq selloff this month. That’s a clue to what might be next.
US stock market
Seasoned investors knew the Nasdaq was due for a correction, but how much further does the tech benchmark (and the rest of the stock market) have to fall? | Image: AFP PHOTO / Bryan R. Smith
  • The Buffett Indicator was at a record high when the Nasdaq selloff began earlier this month. It shows stocks have a lot of room to fall.
  • After benchmarks fell sharply in September, former Goldman Sachs partner and hedge fund billionaire Michael Novogratz says the bubble popped.
  • The SEC Chair says he’s worried about retail investors. Even Nasdaq bull, CNBC’s Jim Cramer, is begging investors to take something off the table.

The Nasdaq Composite took another 0.6% loss Friday on top of its fastest 10% drop in history beginning the first week in September. This month’s capitulation in tech stocks retraces the benchmarks’ furious run-up to record levels, and valuation metrics like the handy “Buffett Indicator” at historical extremes.

Meanwhile, the S&P 500 Index ticked up 0.05%, and the Dow Jones notched up 0.5% in Friday trading. Election nerves and consumer price inflation last month in the latest BLS CPI print tamed bullish movement in choppy trading.

Other bearish questions remain for the stock market heading into next week. Not least of which is how long share prices can remain decoupled from corporate financials, strategic outlooks, and economic fundamentals.

The Buffett Indicator at 175% After This Selloff Is a Screaming Bear Signal

The Buffett Indicator shows stock prices are more overvalued than the 2008 financial crisis and 2000 Nasdaq bubble–even after the haircut tech stocks took this month. This week, the total U.S. stock market capitalization stood at a historically unrivaled 175% of U.S. GDP.

nasdaq stocks are in trouble: The Buffett Indicator is at a horrific historic high. | Source: Federal Reserve Bank of St. Louis
The Buffett Indicator is a sensible and straightforward way to tell if stock values are in bubble territory. Today’s stock market is off this chart. The Nasdaq is the worst offender. | Source: Federal Reserve Bank of St. Louis

The indicator peaked with a total U.S. market cap at 137% of GDP in 2007 before the housing market crashed. It peaked even higher, at a heedless 146% of GDP, before the dotcom bubble popped.

Before the coronavirus pandemic sent stocks plunging starting in February, the Buffett Indicator predicted something would. In January, it hovered at a historical high of 153% as valuations swelled to record levels.

The recent selloff should have come as no surprise to experienced investors. September is a historically losing month for stocks. That cyclical trend has been especially severe in years when stocks heat up as much as they did this August.

Equity benchmarks posted five consecutive months of gains, and the Nasdaq pushed deep into record territory. The exuberant rally, amid the worst decline in GDP and employment ever, raised eyebrows from the beginning. That’s why Allianz Chief Economic Advisor Mohamed El-Erian told Fox Business Tuesday:

I’m not really surprised. We’ve come such a long way, five straight months of gain, record levels, the NASDAQ outperforming the S&P by 20%. It’s still up 26% despite last week’s selloff. So it doesn’t surprise me. I think most people had gotten cautious about valuations.

Watch:

El-Erian concluded:

The big question is what’s next?

Buffett’s classic valuation metric shows stocks have a lot of room left to fall if this year’s extreme decoupling of prices and fundamentals is at an end.

After a record loss for the Nasdaq, the Buffett Indicator is still hovering at an incredible 175%. That strongly suggests stock prices are incredibly precarious going into next week.

Billionaire Michael Novogratz: “The Bubble Popped”

As we’ve seen this summer, with a remarkable “buy the dip” optimism and a swell of retail trading, there’s no telling when the correction will come. Timing the market can be notoriously treacherous.

The Buffett Indicator can only tell us that eventually, in the course of market price-seeking, that mean reversion will put downward pressure on prices if earnings don’t grow fast enough to justify valuations.

That’s got the SEC Chair worried for the retail crowd. With the Buffett Indicator reaching 174%, he told CNBC he’s not sure they understand the risks. He’s not the only one. On Tuesday, former Goldman Sachs partner and crypto-asset manager Michael Novogratz said:

We’ve been in a speculative frenzy, and I think the bubble popped. I think we’ve put the highs in for the year in both the Nasdaq and in Tesla, and now it’s a ‘sell the rally,’ not a ‘buy the dip’ market, so the psychology has to change.

For evidence of Novogratz’s gauge on market sentiment, look no further than CNBC’s “Mad Money.” As the selloff began, Jim Cramer, who pumped the Nasdaq right up to the brink in February, practically begged investors on Sept 3 to sell the rally, take profits, and get their powder dry for cheaper opportunities ahead.

Disclaimer: This article represents the author’s opinion and should not be considered investment or trading advice from CCN.com. Unless otherwise noted, the author has no position in any of the securities mentioned.

Sam Bourgi edited this article for CCN.com. If you see a breach of our Code of Ethics or find a factual, spelling, or grammar error, please contact us.

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