5 warning signs of a stock market bubble

By Mark Hulbert

Opinion: It turns out that the current sentiment is unlike that of March 2000 Enlarge Image CHAPEL HILL, N.C. (MarketWatch) — The stock market slide in recent days, after the S&P 500’s 30%-plus surge last year, doesn’t represent the bursting of a bubble. That’s crucial to consider, given the comparisons made by some pundits between the current market and that of March 2000, when tech stocks started evaporating. Whatever else you might say about today’s stock market, it is nowhere near as overheated as it was 14 years ago. And that’s not a subjective view. My conclusion is derived from a data-driven focus on objective measures that were identified by the leading academic study of investor sentiment. That study, by Jeffrey Wurgler and Malcolm Baker, who are finance professors at New York University and Harvard Business School, respectively, was titled “Investor Sentiment in the Stock Market.” The professors identified five indicators of investor sentiment that, over the past half century, were highly correlated with investors’ mood swings between the extremes of pessimism and exuberance. Not surprisingly, the indicators showed a record level of investor optimism in March 2000. The picture they’re painting today is far different. 1. Volume of IPOs. There were 123 new issues in the first three months of 2000, according to University of Florida finance professor Jay Ritter. There were 58 in the same period this year, according to Ritter. 2. IPO returns. In 2000’s first quarter, the first-day return of the average initial public offering was an incredible 96%. During the first three months of 2014, it was 22%. 3. Dividend premium. The professors, in a study, focused on the relative valuations of two groups of stocks: those of established, dividend-paying companies versus those of more speculative firms. They theorized that, as exuberance reaches extreme levels, investors become bored by established, dividend-paying companies. In March 2000, speculative companies on average had a 43% higher valuation than the dividend-paying stocks. The comparable premium today for stocks in the S&P 1500 index is 26%, according to data from FactSet. 4. Share turnover. Over the first three months of 2000, NYSE-listed stocks’ turnover rate was an annualized 89%. For the first quarter of this year, it was 58%. 5. Share of corporate cash derived from equity issuance. Corporations increasingly turn to the equity markets to raise money during periods of speculative excess. The equity share stood at 20% for the first three months of 2000. The most recent data from Wurgler, covering three months in late 2013, showed the equity share was 11%. The bottom line? None of the five sentiment indicators shows the market today to be as overheated as it was in March 2000. To be sure, equities may be overvalued. And, in any case, the market is more than overdue for a 10% correction. But the bears go too far when they try to advance their argument by claiming that we’re in a bubble that is analogous to the one that occurred in March 2000.

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