Sunday, January 4, 2015

What does stock market valuation in 2014 portend for the future?

Using the S&P 500 index level at the end of 3Q2014 divided by the final report of GDP in trillions of dollars you get a ratio of 112. 

To put that in its proper context from 1965, the mother of all buying opportunities at the end of 1981 produced a level of 38 and the outlier year at the other end of the scale was 1999 at the end of which the level stood at 152. So 112 is well north of the Mason-Dixon line of 95 for this analysis.

The nominal average return per annum for the ten years from the end of 1981 was 16.53% with dividends fully reinvested, but from 1999 it was . . . wait for it . . . -0.73%.

Similar levels to 2014 have obtained at the end of 2001 (108), 1997 (113), 1968 (110), and 1967 (112). The respective subsequent 10 year average returns have been 2.79%, 6.02%, 2.81% and 3.49%, for an average of these of 3.78%.

In other words, the future doesn't look so hot.