Are US Stocks Expensive?

The US stock market has rallied significantly since the global recession, leading some fund managers to say the market is overvalued. But value depends on your time horizon

Samuel Lee, ETF Analyst 9 June, 2014 | 2:25PM

A perennial source of debate is whether the U.S. stock market is cheap or expensive. The biggest fights erupt between what I call the business-cycle school and the intrinsic-value school.

The business-cycle perspective is ably summarized by one of my favourite bloggers, Barry Ritholtz, who wrote, "looking at valuations involves two factors: price and profits. One is known, and one is unknown. That is where the economy comes in. Gains in corporate profits depend in large part on accelerating global economic growth."

Ritholtz endorses a model of stock-market pricing in which valuations are determined by near-term earnings, which in turn are set by the business cycle. Under this model, stocks are cheap or expensive based on where the market thinks we are in the business cycle versus where we actually are in the cycle. Valuation requires coming up with a view on the business cycle. This is Wall Street's preferred model.

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Samuel Lee, ETF Analyst  -

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