ValuEngine: Market Overvaluation Pulls Back Slightly

For today’s bulletin, we take a look at market overvaluation calculations.

VALUATION WATCH: Overvalued stocks now make up 62.51% of our stocks assigned a valuation and 23.33% of those equities are calculated to be overvalued by 20% or more. Fifteen sectors are calculated to be overvalued.

ValuEngine tracks more than 7000 US equities, ADRs, and foreign stock which trade on US exchanges as well as @1000 Canadian equities.  When EPS estimates are available for a given equity, our model calculates a level of mispricing or valuation percentage for that equity based on earnings estimates and what the stock should be worth if the market were totally rational and efficient–an academic exercise to be sure, but one which allows for useful comparisons between equities, sectors, and industries. Using our Valuation Model, we can currently assign a VE valuation calculation to more than 2800 stocks in our US Universe.

We combine all of the equities with a valuation calculation to track market valuation figures and use them as a metric for making calls about the overall state of the market.  Two factors can lower these figures– a market pullback, or a significant rise in EPS estimates. Vice-versa, a significant rally or reduction in EPS can raise the figure. Whenever we see overvaluation levels in excess of @ 65% for the overall universe and/or 27% for the overvalued by 20% or more categories, we issue a valuation warning.

We now calculate that 62.51% of the stocks to which we can assign a valuation are overvalued and 23.3% of those stocks are overvalued by 20% or more. These numbers are similar to what we saw when we published our last valuation study in January. Since that time, we have been under an overvaluation watch or warning.

The so-called “Trump rally” or “post-election uncertainty rally” was a boon for the stock markets. However, reality has set in as investors have witnessed what appears to be a White House in disarray, a President unable to achieve promised legislative gains despite his party controlling both houses of Congress, and a general sense of amateurism despite the claims about being a great “deal maker.”

The failure of the TrumpCare legislative package in the House has created doubts about other Trump promises such as the tax cut package, the infrastructure plan, and other big items. That may cool the ardor for stocks in a time of rising interest rates as the Fed gets more ammo for change due to the continued good news on the labor front and the slight increases for the inflation rate. Both unemployment numbers and the inflation rate are now at levels where the Fed can claim that rate increases are warranted under their main mandates.

Of course, we still believe that the Fed should refrain from removing the so-called punch bowl just yet. Workers still need to benefit from the recovery and we feel there is still some weakness in the economy that needs to be wrung out. We also wonder about the overall health of the commercial real estate markets and believe some areas are getting dangerously overbuilt and that this could constitute a bubble as damaging as the housing market in the lead up to 2007-2008.

The chart below tracks the valuation metrics from April 2016. It shows levels in excess of 40%.

This chart shows overall universe over valuation in excess of 40% vs the S&P 500 from April 2014

This chart shows overall universe under and over valuation in excess of 40% vs the S&P 500 from March 2007*

*NOTE: Time Scale Compressed Prior to 2011. is an Independent Research Provider (IRP), producing buy/hold/sell recommendations, target price, and valuations on over 5,000 US and Canadian equities every trading day.
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ValuEngine Capital Management LLC is a Registered Investment Advisory (RIA) firm that trades client accounts using ValuEngine’s award-winning stock research.
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