- All three major US stock indexes have posted strong gains this past year, raising the question of whether or a market bubble is forming.
- We can argue about whether such things exist at all, like Bigfoot or UFOs, but even by the loosest definition US stock indexes don't seem to have met historic criteria.
- I would point out, again, the sector is simply in the long-term uptrend that began at the end of October 2022.
When it comes to markets, what’s a bubble? A standard industry definition is, “A type of economic bubble taking place in stock markets when participants drive stock prices above their value in relation to some system of stock valuation”. Clear as mud, right? Naturally, I have a couple issues with this definition:
- The equating of “market” and “economy”. Unless one belongs to a cult, the general rule of thumb is A does not equal B.
- “Some system of stock valuation”? Are we talking about the antiquated price to earnings ratio (P/E)? Another way of calculating intrinsic value of a stock?
In the commodities complex, it’s easy to see when bubbles are forming. Futures contracts lose contact with their intrinsic value; their underlying cash markets (e.g. livestock), national cash indexes (e.g. grains), or spot-month futures contracts (e.g. energies). But it isn’t as cut and dried when it comes to equities. At least not always. There are times when it’s a no-brainer to say a market bubble is blowing, most notably when a meme stock starts making a run.
What is the meme stock phenomenon? According to Investopedia, “A meme stock refers to the shares of a company that have gained viral popularity due to heightened social sentiment.” The common thread in meme stocks is the underlying companies have little value, nearly no earnings, really no reason to exist. It’s the stock markets version of the Kardashians, or weekly NASS Crop Progress and Condition reports. Yet because of a frenzy usually tied to social media of some flavor, prices of these stocks explode. These bubbles are destined to burst, with those who triggered them getting the best payout.
But what about stock markets in general? Some would argue that bubbles don’t actually exist, again due to the lack of a consistent system of creating intrinsic value. I’m not naïve enough to make the argument stocks are the last bastion of free markets, where value is determined by actual participants, because we all know this isn’t the case. Manipulation is everywhere, sometimes even coming from a US White House cell phone or computer posting craziness on social media, just to 1) create market reaction and 2) make note of what that reaction might be.
My friends running the Barchart X-site formerly known as Twitter page recently put up a poll asking this very question: Are US stocks in a bubble? The results were a strong “Yes”, as in 60.5% to 39.5% saying “No”. Reading through the comments one could find just about every reason imaginable, but few (if any) talked about a disconnect between stock price and value. In fact, I posed the question in my response and was met with only crickets chirping. What I did notice, though, was a number of politically motivated responses to the poll question.
In this day and age, does this surprise you? Bueller? Bueller? I didn’t think so. Covfefe anyone?
The best response was along the lines of we won’t know a bubble exists until after it pops, if it pops. Like a Black Swan Event, we don’t see these things beforehand. Why? Again, there is no clear measure of intrinsic value.
As February came to an end we find the three major US stock indexes showing impressive gains:
- The S&P 500 ($INX) hit an all-time high of 5,111 this past month before closing at 5,096, up nearly 5% for the month and 28% since last February’s settlement.
- The Dow Jones Industrial Average ($DOWI) also registered a new all-time high of 39,282 before closing at 38,996, up 2% for the month and 19% over the past year.
- The Nasdaq ($NASX) came up just short of its all-time high of 16,212, but did close at 16,092, up 6% for the month and 40% over the past year (and its highest monthly close on record).
Do the strong gains posted this past year hint at a bubble? Not according to . According to the article, “Since 1974, the S&P 500 has risen 100% of more during the three years that preceded every bubble peak, according to an analysis from a team of analysts at DataTrek”. Since the end of February 2021:
- The S&P 500 is up 34%
- The Dow Jones Industrial Average has gained 26%
- And the Nasdaq is up 22%
- None of them within sight of the 100% mark.
Do I think US stock indexes are in a bubble? No. I still see long-term uptrends that have been in place since the end of October 2022. Could bubbles form? That depends on whether one believes in the idea of market bubbles in US stock indexes to begin with. If one does, then yes, though as the one responder to Barchart’s poll suggested we tend to not know these things until after the fact. As for me, I’ll continue to follow Newsom’s Market Rule #1 (Don’t get crossways with the trend), and then wait to see a clear reversal pattern similar to what occurred at the end of January 2022 for all three major indexes.
On the date of publication, Darin Newsom did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
