The Dow set a new high yesterday. Today, the world is worrying whether the stock market is over-valued and ready for a replay of 2008. The answer is NO. Take a look at this chart:
If you take the price of a share of stock and then divide it by the earnings per share of stock (EPS), you have the Price-Earnings (PE) Ratio, which is the measure of how "over-valued" the stock is or is not. In other words, how many years of EPS are you paying for a single share?
Looking at this chart, you'll see the trend line is that the market becomes fully valued when each share of stock costs about 23 times the earnings per share. Today, we're at 20 times, which means the alarm bell is not ringing yet.
Does that mean the stock market cannot take a bear swoon right now? Of course not! A dip of 5-10% is always possible at any time and is indeed healthy for the market in the long-run. Since yesterday's new high was the fifteenth new high of the year, why is a sixteenth new high hard to imagine?
Paraphrasing the iconic Warren Buffet, I don't know where the market will be tomorrow, but I do know where it will be in ten years . . . UP!
