This week's edition of Barron's contains an article entitled, "Does Extreme Stress Signal an Economic Snapback?" the thesis of which is carried in the subtitle: "More than a decade's worth of equity gains has evaporated. But history suggests that stocks won't fall much further." The article includes the following graph offered in support of the main thesis:
We are supposed to all think that our 201k's (formerly 401k's) are undervalued now and will at least grow back to the historic norm.
Don't know about you, but I find that graph FAR from reassuring: in fact, it appears to support the opposing thesis.
Throughout the 1990's, pundits claiming that stocks were overvalued would frequently cite the Q (or Tobin's) ratio, a similar ratio of stock value to their replacement costs. Despite their entreaties, the value kept growing further and further away from the "norm" up until the 2000 top -- just as the graph above shows that stocks remained above their "average" level for the entire 1960s and 1990s.
As described in this article (which includes an updated graph) as of 2006 the "Q ratio" still hadn't reverted even to its historical long-term average!
Indeed, what the graph above tells me is that stocks will continue to decline until they reach the ratio of .4 to GDP. And, by the way, following both the 1929 and 1966 highs shown on the above graph, typically that .4 reading was reached initially during times of severe economic stress where the GDP had declined substantially!
So what the graph above tells me is that, some day in the not-too-distant-future, on a very bleak day when the GDP has declined perhaps 10% from today, the S&P will be worth only 4/10 of that GDP. In other words, the S&P 500 has perhaps another 40% to decline from here before it reaches its long-term bottom, at the end of the Slow Motion Bust.