“Whether US stocks are overvalued or undervalued at the end of 2022 is a complex question and depends on a variety of factors, including the risk premium for stocks, the state of the economy, and the yield on risk-free assets.” Mina Tadrus, MA, JD, CEO of Tadrus Capital, told International Business Times.”
US stocks, as represented by the S&P 500 index, ended the year 2022 with a price-to-earnings (PE) ratio of 18. This means that the current price of the index is 18 times the annual earnings per share of the companies in the index. A high PE ratio can indicate that the market is overvaluing the stocks, while a low PE ratio may indicate undervaluation.
In comparison, at the end of 2022, the yield on US Treasury bills, a risk-free asset, was 4.5%. This means that investors could earn a return of 4.5% on their investment in Treasury bills without taking any risk.
When the PE ratio of the S&P 500 is compared to the yield on Treasury bills, it appears that the market may be overvaluing stocks. The S&P 500 has a PE ratio of 18, which is higher than the yield on Treasury bills, indicating that investors are willing to pay a higher price for stocks despite the lower return.
However, it’s important to note that the yield on Treasury bills is a risk-free return, while the return on stocks includes a risk premium. This means that investors expect to earn a higher return on stocks to compensate for the inherent risk of investing in the stock market.
It’s also worth considering the state of the economy when evaluating the value of stocks. If the economy is strong and growing, it’s likely that companies’ earnings will also grow, which could support higher stock prices. On the other hand, if the economy enters a recession and earnings fall, the gap between the S&P 500’s yield and the yield on Treasury bills could widen, potentially indicating that stocks are overvalued.
Source: International Business Times
Author: Panos Mourdoukoutas Ph.D.
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