Are Record High EU Stocks In A Bubble?
European equities have been rallying in tandem with their US counterparts, with the Stoxx 600 index making a series of all time highs recently. Are European equities also in a bubble? We decided to find out by calculating a European equivalent of the Buffett Indicator.
As you can see, the Buffett Indicator for EU equities, as measured by the Stoxx 600, is not at all time highs. This is in contrast to US equities, which are making all time highs on both a nominal and Buffett Indicator basis.
However, the EU Indicator is still coming in at levels which can best be described as “hot, but not too hot”. Based on the latest available data, the European equivalent of the Buffett Indicator is moving higher, approaching the previous high it made in Q1 of 2015; but is not yet close to being in “record high” territory. That would come when it reaches and surpasses its 15 year high, made just before the Great Financial Crisis, which isn’t that far away.
Consequently, it probably is too early for bubble talk in European equities, at least from the limited perspective offered by this metric. That being said, it is definitely worth keeping an eye on how this indicator changes in tandem with European developments in the months ahead.
Notes on how this Indicator was constructed
The core idea of the Buffett Indicator was maintained, and a broad measure of European equities and nominal EU GDP was used to calculate the indicator’s values. It must be noted that the EU version gives a more general, “big picture” view compared to its American counterpart because of two factors.
The first being the mismatch between the components of the Stoxx 600 and EU GDP. The Stoxx 600 has components that span the European continent by geography, and isn’t limited to stocks of companies based only in the EU. This means that using EU GDP as the denominator in the calculation does not provide a clean match between companies and their related geography. (This might not matter that much these days, since many companies have operations that span multiple geographies)
Secondly, the Stoxx 600 does not provide anywhere near the Wilshire 5000’s breadth of representation, in terms of listed equities providing a proxy for economic production. But, the Stoxx 600 is the broadest European Index we could find (please let us know if there is an even broader one), and as such really is the only viable option that can be used in calculating the EU Buffett Indicator.
Also, please note that 1Q ‘21 is the latest data point for the Indicator, even though we are into the 3rd quarter of the year. This is due to Eurostat’s frequency of releasing their GDP estimates.
Considering that the Buffett Indicator is only ever used in a contextual way, that is, decisions are not made based on its value, much less its precise value, what truly matters is its ability to capture broad trends in equity markets and economic growth. On this count, the EU version remains fit for purpose.
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