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Why the Stock Market is Not a Bubble

Stock-Markets / Stock Markets 2013 Nov 24, 2013 - 04:18 AM GMT

By: Investment_U

Stock-Markets

Alexander Green writes: In the past week, there have been major stories in both The Washington Post and The Wall Street Journal – as well as a cover story in Barron’s – asking the same pointed question: Is this stock market a bubble?

And my column in Investment U last week raised a warning flag, too, about a bull market that’s starting to show its age. So it’s understandable that people are getting nervous.



But at the risk of spoiling the suspense: No, this is not a stock market bubble.

The current bull market began on March 9, 2009, and is currently up 167%. That is more than the housing bubble, when home prices more than doubled from 2002 to 2007, but not nearly as big as the Internet stock bubble between 1990 and 2000, when the technology-laden Nasdaq rose 417%.

Bears point to the frothy Twitter (NYSE: TWTR) IPO – the social-media company’s shares surged 73% in a matter of days – and the 300% move in Tesla (Nasdaq: TSLA) this year. But a couple of bubbly stocks don’t represent an entire market.

Every bull market is followed by a bear market (and vice versa). And at nearly five years, the current bull market is older than average.

The Signs Aren’t There

But the current stock market doesn’t contain the two factors present in every genuine financial bubble: sky-high valuations and wild-eyed optimism.

Sure, the Dow has recently hit several consecutive all-time highs. But 16,000 is only a number, not a valuation based on sales, earnings, dividends or book value.

For instance, when the Dow hit 11,000 in March 2000, the index sold for more than 30 times earnings. Thirteen and a half years later, while the market is nearly 50% higher, it sells for only 16 times earnings, very close to the long-term average. And most foreign markets – especially European ones – trade at even lower valuations.

So while stocks are near record highs, valuations are nowhere near them.

The other major indicator of a bubble is sentiment. For true believers at the time, Internet stocks represented “a New Era” and real estate was a seemingly can’t-lose proposition.

But that kind of silliness is nowhere apparent today.

Yes, mutual fund cash-flow figures show that ordinary investors are moving back into stocks. But that hardly means the bull market is over.

What a lot of pundits don’t seem to understand is that, historically, everyday investors are right most of the time. They are usually in for bull markets and out for bear markets.

Where they get it wrong is at the extremes: being too pessimistic at market bottoms and too enthusiastic at market tops. So we should be looking for signs of euphoria among ordinary investors.

But I don’t see it right now. Most investors are moving into stocks not because they see nothing but blue skies ahead but because they are earning nothing in cash and next to nothing in bonds. So they are sticking their necks out a bit. And there’s nothing wrong with a bit of prudent risk-taking.

So don’t buy the fear stories that are circulating. Yes, the market can sell off at any time for reasons we can’t foresee.

But are we in a bubble right now?

Absolutely not. We have neither the high valuations nor the overly optimistic sentiment to make that case. So while we are certainly well into this nearly 5-year-old bull market, it still has room to run.

Good investing,

Alex

Source: http://www.investmentu.com/2013/November/this-isnt-a-stock-market-bubble.html

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