US Stock Valuation

Frequently analysts, columnists, commentators, and others will refer to the Fed’s stock valuation model when comparing relative stock and bond valuation levels. The Fed's model was in a report Alan Greenspan submitted to the FOMC in December 1996 when he spoke of irrational exuberance. Shortly thereafter the model gained widespread acceptance as a stock and bond valuation tool. The values shown below were computed using the Fed Stock Valuation Model and Standard & Poor's earning's forecasts. These free forecasts are on their website and are generally updated weekly. This report will generally be updated on the weekend following the market's close each Friday.

On Friday, July 3, 2008,

based on forecasted operating earnings,

US Stocks were 38% under-valued.

On the date above,

the yield on ten year Treasury Notes was 3.99%.

If the yield were to rise by 2.46%,

AND IF earnings remained constant,

THEN based on forecasted operating earnings,

stocks would be fairly valued.

OR,

based on forecasted reported earnings,

US Stocks were 32% under-valued.

OR,

based on current reported earnings,

US Stocks were 13% under-valued.

Most analysts use forecasted operating earnings when comparing stock and bond relative valuation levels. I have added a valuation level based on forecasted reported earnings to this page so you may choose the more appropriate method yourself. Generally speaking, operating earnings are earnings from operations without "one time" charges such as plant closings etc.  Go to Standard and Poor's website for a comprehensive explanation of reported and operating earnings. Note that analysts frequently change their opinions about future earnings, primarily because they're frequently wrong. Pay some money and take some chances. Wheeee!

I have also added a valuation level based on current reported earnings. This value is given for reference only since most analysts agree that you pay for future earnings when you buy stocks.

For a comprehensive explanation of how the Fed and others use the model to determine stock and bond relative valuation levels go to Fed Model Explanation. The Fed Model has come under attack recently and some critics are questioning the validity of its results. I disagree with the critics but welcome any intelligent critical comments. Recognize that many stocks in any stock market will unexpectedly out-perform and many others will unexpectedly under-perform. The same can be said for the entire market: At times it will be incredibly over-valued or under-valued; several months or years later it may be even more over-valued or under-valued. Recognize that as a fact of investment life and try to be emotionally and financially prepared to deal with it.

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