One of the most obvious yet, in my mind, overlooked correlations in the world is the relationship of broad-based index values to the level of the GDP. Looking at ratios like the “Buffett Ratio” would seem to make sense, but as I discuss in the IOI 102 course, there are hidden assumptions within ratio analyses that makes them misleading and practically unusable in many cases.
I stumbled across a site called Brock Value that has an equation that relates the value of the index to the country’s most recent GDP reading and the level of Aaa bonds in a fairly simple way. You can find the equation for calculation and a spreadsheet on the Brock Value site, but the gist of it is that Brock assumes 2 things:
- As economic output increases, stock prices should increase (sensible)
- If stock prices grow faster than GDP by too much more than the Aaa bond yield, they are risky (also sensible)
I have been working on an IOI-style “Fair Value of the Market” calculation that would provide a valuation range for the index based on aggregate operational data for the component companies. Until that’s done, I was happy to find and play around with Brock Value a bit!
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