Striking chart, isn't it? What does it tell us. First, the Nasdaq drove the $7 trillion rise in the U.S. between 1999 and 2000. When the tech bubble burst, $7 trillion in wealth was wiped out.
Though not yet at new highs, it's interesting to speculate on what caused the recovery in the U.S. market, particulary the spurt that drove it off its lows of around 7,000 to nearly 11,000 in 2003-2004. This was synchronous wit the rise in commodity prices. But can the increase in the share price of commodity stocks account for the boom? Surely it wasn't the recovery of Nasdaq stocks. A lot of the gain has come from the financial sector.
In any event, where does the market go after making a new all-time high? And does it even matter that "the market" makes an all-time high when the composition of growth is varied and different this time around?
Perhaps the more useful comparison is between the total market cap total GDP. The thinking behind this comparison is that the value of publicly traded stocks--a claim in future earnings--can't exceed the aggregate value of a nation's goods and services. Yet today's market-cap to GDP ratio of over 140%, though not at an all-time high, is certainly an extreme.
Translation: it doesn't matter what's driving the market right now...it's gone well-beyond any relation to fundamentals or realistically valued claims of future corporate profits. Those claims themselves have become ludicrous and fanciful.
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About the Author
Dan Denning is the author of 2005's best-selling The Bull Hunter (John Wiley & Sons). He began his financial publishing career in 1997 and has covered financial markets form Baltimore, Paris, London and, beginning in 2005 Melbourne. He’s the editor of The Daily Reckoning Australia and the Publisher of Port Phillip Publishing.
Comment by Joe Monage on 18 December 2006:
This graph looks interesting, but I am not sure that one can relate the capitalised value of publicly traded companies with GDP.
Firstly, GDP of actual productive activity is in some sense lower than what is recorded because much of what passes as goods and services (particulalry services) arises from government activity that would not be produced and would be over-priced and have very little if any real value.
Secondly, the value of businesses participating in the economy is much higher when you count all those businesses that are not listed on the stock exchange or are run by government.
Finally the capitalised value of publicly listed firms is some multiple of forward earnings with that multipe now around 16, and varying over time (from about 8 to 28 in the USA). If the multiple can be sustained by future earnings than share prices are OK. Also, it should be noted that value investors such as Buffett consider the residual value of firms after taking account of projected earning over a 10-15 year period. That residual value can be very substantial, and make the share price reasonable, even when the current PE looks excessive.
I am not sure what is a reasonable level of total market capitilisation to GDP.
Comment by Ilmar Saar on 21 December 2006:
Maybe it is just the foreigners buying stock with their Dollars rather than exchanging them for Euros or something else? Maybe they would rather own a piece of America with their relative value intact than cause a rush on currency markets and left holding the bag?