Source: Money News

The stock market’s torrid rally has left it vastly overvalued and vulnerable to a horrific plunge, says Henry Blodget, editor-in-chief of Business Insider.

“Every valid valuation measure I look at suggests that stocks are at least 40 percent overvalued,” he writes on the service.

Among examples Blodget cites is that the cyclically adjusted price-earnings ratio, based on 10 years of profits, stands at 25, compared with a long-term average of 15.

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In addition, the current ratio of stock market capitalization to revenue is 1.6, compared with a long-term average of 1.0, he notes.

And the ratio of stock market capitalization to GDP is twice the pre-1990s average, Blodget adds.

These data imply stock returns of about 2 percent per year including dividends over the next decade, he says.

But Blodget believes it’s unlikely to be a regular pattern. Stocks tend to boom and bust, he notes.

“So the farther we get away from average valuations, the more the potential for a bust increases.”

A crash of 40 to 55 percent is possible, based on the valuation data and the work of fund manager John Hussman, Blodget explains.

While the Standard & Poor’s 500 Index has generated at total return of 31.2 percent so far this year, a 50 percent decline would put the index below 900.

“A careful study of history suggests that a crash is increasingly likely and that long-term stock returns from this level are likely to be crappy,” he states.
However, many investors expect the stock market’s ascent to continue.

“General economic conditions are showing a sustainable recovery pattern,” Eric Teal, chief investment officer at First Citizens BancShares in Raleigh, N.C., tells Bloomberg.

“I think we’ll continue to grind higher through year-end, and we anticipate that the fourth-quarter earnings outlook will be positive as well.”