How do you know if the stock market is heading to correction?
Here’s the thing…
Stocks have had a pretty good run.
And it’s starting to feel like a pullback will happen soon.
There are few signs that can help answering this question.
First, Shiller P/E is Above 30
The Nobel prize-winning economist Robert Shiller warned that markets can become irrationally exuberant.
The Shiller P/E ratio measures the market’s level of sanity or insanity.
Shiller P/E has only been above 30, three times:
During 1929 when it reached 30,
During the dotcom bubble reached 34, and now it is 34.
Also Buffett Indicator at All-Time High.
Warren Buffett says that the single best measure of where valuations stand is comparing the market cap to GDP.
The Buffett indicator takes the very broad index called Wilshire 5000 and holds it up against GDP.
This indicator usually should be around 50-75.
If it reaches above 90, the market is in bubble area.
It’s not only above 90 it’s around 200.
It has never been that high before.
Maybe it’s not so strange that Warren Buffett holds around 130 billion dollars in cash (or cash equivalent). Think about it!
Second, Some stocks are soaring.
I am sure many of you heard about Tesla stock.
The funny part is that Tesla’s market cap is higher than Toyota, Volkswagen, GM, BMW, Daimler, Honda, and Ford combined, despite the fact that their combined revenue is 36 times higher than Tesla’s.
In addition, Tesla is struggling to make a profit.
its P/E has surpassed 1640 as of January 2021.
A P/E of that level means that you pay 1640 USD for 1 dollar of earnings.
A reasonable level for an average company would be 15-20.
Third, The IPOs Skyrocketing
Usually IPOs are signs that the market is doing well.
That makes sense.
However, what’s unusual is the way the market receives IPOs these days.
Shares in Airbnb more than doubled on the first day of trading in December.
They went from 68 USD per share to 148 USD per share.
Even new issues of small companies with no revenue might shoot through the roof.
A lot of it is due to private investors gambling that it will shoot up precisely because it’s an IPO.
Fourth, the number of people interested in investing in stock market are exploding,
Newbie investors quit their jobs to make YouTube videos about stock investing, who they have nothing more to say than to explain how to open an account and buy Tesla shares.
The hairdresser and the cab driver love talking about stocks where they made a quick buck. They’re investing their savings, betting on a quick gain, and exiting. They’re betting on a quick in-and-out to make money in a few weeks.
For example, Robinhood, a trading platform popular with teenagers, opened more than 3 million new accounts in 2020.
Can you imagine that A Penny Stock Can Soar 6,000 Percent just on a Misunderstanding,
When Elon Musk said that he’ll stop using Facebook’s WhatsApp and instead migrate to the donor-based, open source messenger service called Signal.
Signal is not on the stock market, but another company called Signal Advanced is.
Signal Advance’s stock surged from 0.60 USD to more than 60 USD in a few days.
What should you do now?
First of all, make sure you’re looking at the big picture…
Go back to the history and study the history of corrections.
According to Dr Steve Sjuggerud “It’s an event that can produce life-changing investing returns. And it happens fast, often in just a year or so. Melt Ups are fueled by low interest rates and easy money policies.”
There’s no question, that’s the environment we’re in now plus the above-mentioned signs.
It’s easy to get tunnel vision when you spend all your time looking at the markets… But don’t let that “expert’s mindset” fool you.
You are in the market to invest… not flail at trading market volatility.
The simple truth is that Melt Ups come with volatility.
Corrections are normal.
Don’t fall victim to losing sight of the big picture.
Right now, the data says we are re in the midst of a Melt Up.
So, while a correction could be looming, it’s likely nothing to worry about.
Just Be careful. Be educated. Stay with the high quality companies.