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Record High Stock Indices Suggest Coming Crash

| by Oren Peleg

On election night, as it became clear Donald Trump would become the next president, Dow Futures dropped by as much as 750 points, MarketWatch reports.

American stocks corrected themselves by morning, and have reached all-time record highs since, but economists are growing wary over what these records mean.

"The cyclically adjusted [price/earnings ratio] (CAPE) a valuation measure created by economist Robert Shiller, now stands over 27 and has been exceeded only in the 1929 mania, the 2000 tech mania and the 2007 housing and stock bubble," Alan Newman wrote in the Stock Market Crosscurrents letter for November, reports CNBC.

Newman added that even if market earnings continue to rise several more points, "we're still dealing with the same picture, overvaluation on a very grand scale."

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A CAPE value is determined by taking the price of a stock and dividing it by the ten years of earning of it, then adjusted for inflation. Shiller, the 2013 Nobel-Prize winner for economics, found that high CAPE ratios and future 10-year stock market returns were negatively correlated. Meaning, beyond a certain threshold, the higher a CAPE ratio, the worse future stock index values will be.

"Only when CAPE is very high, say, CAPE is in the upper half of the tenth decile (CAPE higher than 27.6), future 10-year stock returns, on average, are lower than those on 10-year U.S. [Treasuries]," Valentin Dimitrov and Prem C. Jain, noted on Nov. 17. 

The current CAPE ratio is 27.7. But Shiller himself urged not to panic.

"We believe that psychology drives the macro economy, and there's something changing our psychology," the Yale economics professor said, according to CNBC. "We have a business-oriented president who wants to cut corporate taxes, who wants to cut regulations, and who sympathizes with business. Maybe it's not a good thing -- it's a good thing for business, though … Trump does magic. Maybe it will be black magic sometime, but he's an amazing phenomenon.”

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Sources: CNBC, (2), Marketwatch / Photo Credit: Rafael Matsunaga/Flickr

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