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Wednesday, October 5, 2011

The Market's Valuation

Don't be this guy! Do a little work!
I've had a lot of people ask me what I think about the markets recent downturn. I keep getting the same vibe from people before they even finish the question:

Well this is just the markets! 
What can you do, it goes up and down.

Or you get the other answers:
This is just the start!
Get me the F out of my investments.


While I think it is good to remain calm and not get panicked. I think it is better to do a little bit of research and actually put some numbers in to perspective. Nobody ever knows what will happen today, tomorrow or even next year. In the short term the market is a voting machine, human emotions decide if people will buy or sell, panic or euphoria can set in. These are human emotions that are unpredictable and can turn on a dime. However, in the long term the market is a weighing machine. Panics fade, and bubbles burst. Stocks then return to their underlying intrinsic value.
Don't do something irrational!

The stock market valuation question is an eternal one. It was asked 100 years ago, it was asked today and it will be asked 100 years from now. Do yourself a favour and take a look at some key ratios that are a proxy for market valuations. They will help you keep your head screwed on tight during panics and save/make you a lot of money in the long run if you can stick to them.

Thankfully, my friend Jacob Wolinsky at Valuewalk has compiled all of the key ratios for you and helps puts them into perspective. 






Be winning in the long term
The conclusion: based on a number of key ratios the market is approximately fairly valued. No massive bubble, no massive buying opportunity, in the aggregate. My favourite market valuation chart is below (the 10 year PE) is showing slight over valuation while Buffett's favourite ratio, market cap/GDP is showing stocks are at fair value, and maybe slightly undervalued given the recent market downturn.

Up, up and blown away!
Canadian readers: I have bad news, my opinion is the Canadian markets are in great danger due to commodity prices. I believe there is an infrastructure bubble in China which is a key reason why resource companies in Canada are trading higher. Please read my article on China and Gold. And if you are feeling ambitious and think your Canadian house is your best investment please read this article.

Bottom line, don't panic, check some numbers and make/save your money.

The stockmarket is the only store where people run away when there's a sale on.

Tomorrow I will write about a company you would be crazy not to own.

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