Buffett indicator suggests a stock market crash is coming! This is what I’d do now

The Buffett indicator hints at an imminent stock market crash. Here’s what Anna Sokolidou would do in this situation.

The content of this article was relevant at the time of publishing. Circumstances change continuously and caution should therefore be exercised when relying upon any content contained within this article.

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More.

The ‘Buffett indicator’ signals a stock market crash is coming soon. Here’s how I would prepare for the situation.

What is the ‘Buffett indicator’?

Famous investor Warren Buffett’s favourite indicator US market valuation indicator divides the Wilshire 5000 Index by the US GDP. In other words, it compares the stock market to the country’s economic output. The economy – US and global – is under almost unprecedented pressure right now. At the same time, the US stock market has recovered. 

Wilshire 5000 to GDP Ratio


Source: Longtermtrends.net

If you look at the graph, you’ll notice that the indicator is much higher even than it was during the 2000 dotcom bubble. Investors obsessed with Internet commercialisation kept buying loss-making and overvalued companies. The bubble eventually burst.

But before that happened, Buffett, often referred to as the ‘Oracle of Omaha‘, warned his shareholders that a stock market crash was coming.   

Here’s a quote from Buffett’s letter to his shareholders published back in 2000.

They know that overstaying the festivities — that is, continuing to speculate in companies that have gigantic valuations relative to the cash they are likely to generate in the future — will eventually bring on pumpkins and mice. But they nevertheless hate to miss a single minute of what is one helluva party. Therefore, the giddy participants all plan to leave just seconds before midnight. There’s a problem, though: They are dancing in a room in which the clocks have no hands.

This quote is highly relevant for today’s stock market frenzy, I think. The US market seems to be really overbought right now. The interesting fact is that 60% of the S&P 500 companies are down since the Covid-19 lockdown. But 40% of them, the so-called hi-tech corporations, have rallied to new highs. They currently trade at extremely high multipliers.

You might be wondering what it all has to do with UK investors. Well, when ‘the US sneezes, the whole world catches a cold’. It was the case with the Footsie back in the 2000s after the dotcom bubble burst. That situation might repeat itself.  

Here’s how I’d prepare for the next stock market crash

I wouldn’t panic though. Instead, I’d follow Buffett and avoid spending all my cash at once. I’d also revise my portfolio holdings. Ideally, I’d get rid of the companies with poor balance sheets and low credit ratings. What’s more, I’d invest in companies that tend to flourish even during downturns.

They include, in my opinion, gold and silver miners. My colleague Matthew wrote a great article about firms specialising in extracting the yellow metal. Although Buffett has never favoured gold as a investment, he recently bought Barrick Gold‘s shares. The company is the largest miner in the world and pays dividends. In my view, UK investors also have many attractive alternatives to park their cash. 

Apart from gold miners, I’d also think of undervalued companies producing or selling necessities. The most obvious sectors are the pharmaceutical industry and supermarket chains.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Anna Sokolidou has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

More on Investing Articles

Mixed-race female couple enjoying themselves on a walk
Investing Articles

A once-in-a-decade chance to get rich buying growth stocks?

We haven't seen a good spell for growth stocks for quite a few years now. But I reckon the signs…

Read more »

Young Asian man drinking coffee at home and looking at his phone
Investing Articles

The FTSE 100 is full of bargains! Here’s 1 stock I’m eyeing up

A weak economic outlook has hurt the FTSE 100. This Fool explains why she likes the look of this consumer…

Read more »

Investing Articles

2 no-brainer beginner FTSE 100 stocks to buy for my portfolio

Getting started with investing can be daunting. Here are two stocks for beginners to consider buying to build their first…

Read more »

Young black man looking at phone while on the London Overground
Investing Articles

2 recession-resistant UK shares investors should consider buying

Our writer details two UK shares she feels could withstand some of the ill-effects of the current malaise to provide…

Read more »

Tanker coming in to dock in calm waters and a clear sunset
Investing Articles

Glencore share price drops on results. Time to buy?

The Glencore share price wobbled a bit after a weak set of 2023 results. Here's why I have the stock…

Read more »

Mature Caucasian woman sat at a table with coffee and laptop while making notes on paper
Investing Articles

Big trouble in China sinks HSBC shares. Should I invest after record FY results?

HSBC shares have slumped following a disappointing end to 2023 for the FTSE stock. Royston Wild explains why this may…

Read more »

View of Tower Bridge in Autumn
Investing Articles

3 dirt cheap FTSE 100 shares to snap up today?

The FTSE 100 is rallying, but many shares still look super cheap on fundamentals. Is our writer buying these three…

Read more »

Black woman using loudspeaker to be heard
Investing Articles

FTSE 100 earnings: what can we expect from Rolls-Royce in 2024?

The Rolls-Royce share price tripled in 2023. Roland Head wonders whether this FTSE 100 stock could continue that impressive trajectory…

Read more »