IN THE NEWS

🇨🇳 China’s Anti-Lockdown Protests Spook Stocks And Oil Markets (FT)

Explained:

• Rare protests in major cities across China broke out over the weekend as people vented their frustration with the country’s Zero-Covid policy.
• The unrest came as infections surged, prompting more local Covid controls, while a central government policy change earlier this month had raised hopes of a gradual easing.
• Nearly three years of strict controls have dragged down the Chinese economy, where youth unemployment has approached 20%.

Why it matters:

• Chinese stocks and the yuan dropped as the historic unrest poses one of the most significant challenges to the Communist Party’s rule since the Tiananmen crisis more than 30 years ago.
• Oil prices are sensitive to China’s lockdown policies since they serve as a barometer for future demand and economic activity. Brent crude oil prices dropped over 3.4% on the news.
• The country’s leader, Xi Jinping, previously declared that the country “must stick to (Zero-Covid) without wavering.” The protests represent a major challenge to both national policy and Xi’s personal agenda

💻 Record Cyber Monday Sales Predicted (Reuters)

Explained:

• Cyber Monday, the biggest U.S. online shopping day, is projected to hit a record-breaking $11.6 billion in spending as discounts drive shoppers to click “buy now” despite inflation’s pinch on their checking accounts.
• A report by Adobe Analytics predicts an upswing of 8.5% in online spending compared to last year, as many weary consumers have put off shopping recently in hopes of deep post-Thanksgiving markdowns.

Why it matters:

• Walmart (WMT) and Target (TGT) closed stores on Thanksgiving, and today’s online sale represents a make-or-break day for them in their 4th quarter revenues.
• Many consumers embraced flexible payment plans known as Buy Now Pay Later (BNPL) as they grapple with higher prices. BNPL payments increased by 78% compared to the previous week.
• Some of this year’s hottest items include gaming consoles, drones, Apple Macbooks, Dyson products, and toys related to Fortnite, Roblox, Funko Pop!, and Disney’s Encanto.

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WHAT ELSE WE’RE INTO

THE MAIN STORY: WHAT THE BUFFETT INDICATOR IS TELLING US

Overview

If you’re unfamiliar, the “Buffett Indicator,” derived from Warren Buffett, is a ratio calculated by dividing the U.S. stock market’s total value by GDP.

It’s a rough approximation for whether stocks are broadly over or undervalued when tracked over the long term.

The ratio is currently approximately 1.65, with the stock market wielding a nearly $43 trillion valuation while the American economy approaches $26 trillion in annual GDP (43/26 = 1.65).

What does that mean for investors, though?

To answer that question, we turned to one of The Investor’s Podcast Network’s closest friends, Tobias Carlisle, to learn more.

Carlisle chatted with fellow value investors Jake Taylor and William Brewster on The Acquirers Podcast about what the Buffett Indicator tells us.

Firstly, he explains that this indicator doesn’t hold up when compared with other countries. For example, if the U.S. has a 1.65 value and, say, Germany has a lower ratio at 1.5, that doesn’t mean you should sell American stocks and buy German ones.

Instead, the Buffett Indicator best compares a country’s ratio to its own history.

What to know

If a nation’s stock market becomes significantly more valuable (increasing total market capitalization of its listed companies) without a substantial increase in economic output, then seemingly speculation is driving price growth.

In that case, aggregate market indices are potentially overvalued.

This is especially true if the indicator value is meaningfully above its historical average.

Carlisle suggests that the indicator can be improved by removing the capitalization of financial stocks. In other words, take out banks. And then, from there, compare it to total corporate profits instead of GDP.

Using the classic Buffett Indicator, we’re almost one standard deviation above the average, which means that markets are still fairly valued, if not overvalued, despite the large correction this year.

Takeaways

Carlisle says he’s still waiting for the “big flush,” which is the capitulation point where fear and pessimism peak.

The Buffett Indicator by itself, like most metrics, isn’t a great predictive tool. Rather, it serves as a heuristic for building our general framework for the market.

When it’s sharply above its average (more than two standard deviations) as it was in 2020 and 2021, we should exercise extreme caution with our picks, focusing on only the highest quality companies.

In today’s environment, we can be a bit more flexible and ‘shop around’ more, but stocks aren’t overwhelmingly cheap either. There’s still considerable room for error and downside risk.

Wrapping up

One criticism of the Buffett Indicator is that it doesn’t directly account for interest rates. Despite rates rising significantly this year, they’re still far below average, which has probably prevented an even worse downturn in equity markets.

This means that the Buffett Indicator can stay abnormally high for an extended period, thus reducing its predictive value.

Even still, we like to look at it periodically, and we enjoyed listening to Carlisle discuss it on his podcast.

Dive deeper

You can listen to the full episode here. And for more from the expert value investor, we recommend his weekly newsletter. It’s great stuff.

Check it out.

SEE YOU NEXT TIME!

That’s it for today on We Study Markets!

See you later!

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