The S&P 500 is Undervalued by 12%

Brock Value Latest Ten Years

US GDP Corp Bond Yield S&P 500 Brock Value Upside to BV
$19.25t 3.42% 2549.33 2881.87 +13%
These are the latest numbers, updated to Friday, October 6. With US GDP at $19.25 trillion and medium-term corporate bonds yielding 3.42%, the intrinsic value of the S&P 500 index as measured by BV is 2881.87.

By comparison, the S&P closed at 2549.33 on October 6, 12% below BV or fair value. This implies an upside of 13% to the market’s intrinsic value. Click the chart to enlarge.

Understanding Brock Value charts
Brock Value is the long-sought answer to the question: what is the market worth? BV is a valuation metric with just two inputs: GDP and interest rates. Compared to questionable old-school metrics (and even new ones like Shiller’s CAPE), BV provides more reliable measurements, especially at critical turning points.
brock value 1960 to present

The red and green lines fence in the normal range of the market, one-third of a standard deviation from BV, the white line. Click image to enlarge.
Valuation Return
Above Red Line 1.2%
Fair Value 7.2%
Below Green Line 10.5%
Median 10-year compound annual real total returns, 1919-2006

The red and green lines found on most of the BV charts on this site indicate the normal range of the market. Measuring one-third of a standard deviation above and below BV (the white line), these guidelines serve as boundaries, beyond which valuation is extreme in one direction or the other. When the market (the yellow line) trades above the red line, it is overvalued. When this happens, my analysis shows that prospective (ten-year) returns are lower than average. Conversely, when the market trades below the green line, it is undervalued and ten-year returns are higher than average.

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17 responses to “The S&P 500 is Undervalued by 1217”

  1. John E. Calkins

    Your Brock Value Charts are great — please keep them going.

  2. Pete Brock

    Thanks for the good word, John. I will keep this site going until kingdom come.

  3. Tony

    Oh my dear God who dreamt up this baloney? The long term trend line for the S&P 500 index is around 400 at the very most. This makes the S&P 500 index 500 percent overvalued today. Given the strife and outlook for the future a value of 400 is still excessive. I could add the long term trend line for the DOW is around 3,500 while I’m at it.

  4. Pete Brock

    Tony, this forty-year trend channel suggests the market is ahead of itself but I don’t see how you got 400.

    1. stefan

      hi peter, the gdp only comes out quaterly so today is december 18, 2015 you would have to use third quarter gdp to get brock value , any suggestions

      1. Pete Brock

        That’s correct. Because the new GDP numbers come out after the quarter is over, I carry forward the previous level. You could extrapolate the trend forward to produce a pro forma GDP, but I do not.

  5. Emiliano Saccani

    You can use the method with individual stocks?

    1. Pete Brock

      Hi Emiliano,

      Yes, you can, if you have access to enough historical data to calculate a representative median (ten years is enough). Use the price to sales ratio. You can get the sales data from ValueLine.

      1. Emiliano Saccani

        Thanks Peter (also follow you on twitter). I’ll try ko and pg

  6. STEFAN

    mr. brock, can you please provide the website link to obtain the gdp and bond yield for the data you use, thanks

    1. Pete Brock

      My sources (with links) can be found in the spreadsheet, on the fourth tab labeled so.

  7. stefan

    hi peter, i am able to calculate pyi ratio and it matches the values you obtain, but when i calculate the brock value using the pyi ratio, the brock value becomes the current s&p 500 value there is no difference, please help

    1. Pete Brock

      Hi Stefan,

      If you are getting errors, check your formula against the formula in the data table. That should show you what’s wrong.

      Using the latest figures (November 27,2015)

      BV = (0.515/Aaa)*GDP
      BV = (0.515/4.01)*18034.8
      BV = 2316.19

  8. Erik Kobayashi-Solomon

    Hi Peter,

    Not sure how I came across your site, but I found it fascinating. So many people look at stock index levels as if they were disconnected from the real world, but of course values must relate to economic output somehow. Bravo!

    I am having trouble imagining what meaning the PYi number means though. P/y is already normalizing the index’s price by economic output. Now you write that you are standardizing by Aaa bond rates. How do you conceive of that?

    To me, the simplified version is more defensible mathematically. You’re basically doing a Gordon Growth Model equation where PV = GDP / (r-g). Right now, the r-g term is around 8%, so if you assume a 5% nominal growth in the future, you are “discounting” the GDP at a rate of 13%. That seems very high to me but at least the path to get there makes sense.

    Can you help me understand the PYi?

    Thanks much,
    Erik

    1. Pete Brock

      Hi Erik,

      However you found this site, I am glad you did, because you left a great comment. I wish I could take credit for factoring in interest rates. It is a stroke of genius. However, a real genius came up with it in the 1970s when his valuation formula stopped working. It was an era of rising inflation and unheard-of interest rates, so Ben Graham realized he needed to divide his ratio by the Aaa rate to normalize it. How I came upon his idea and started using it in my own stock analysis is detailed here.

      From the man himself in 1974, why interest rates are required in fair value calculations.

      “Those of you who have studied Security Analysis may recall that we tried to simplify the mathematical methods of several writers by suggesting a formula that employs a single variable G, representing the expected growth rate over the next seven to ten years. It read:

      Value = current normal earnings times the sum of 8.5 plus 2G.

      This valuation formula – like those it purported to approximate – had the great defect of failing to allow for changes in the basic rate of interest. But one development in the past decade that has had the greatest influence on stock values – and, somewhat belatedly, on stock prices – has been the phenomenal advance in interest rates. For the three years preceding the publication of our text the yield on AAA bonds averaged 4.4 percent, and that was also the figure just ten years ago. But for the three years 1971-1973 the average was 7.5 percent, and most recently 9.5 percent.

      It would seem logical to me to make common stock valuations vary inversely with representative current interest rates corresponding to the analyst’s use of representative current earnings. Suppose we restated our 1972 formula with that objective making it reflect the then going AAA rate of 4.4 percent. The expression would then read:

      Value = Earnings time the sum of 37.5 plus 8.8G, divided by the AAA rate.

      Since analysts have a weakness for figures, you might like to hear two or three results based on this revised formula. For the DJIA, taking G as its historic 4.5 percent and the AAA rate of its 3-year average of 7.5 percent, we get a multiplier of 10.2. Applying this to the 1971-73 average earnings of the Dow, its central value would be about 750. If instead of 3-year average figures you took the recent bond rate of 9.5 percent and the most recent inflation-aided annual earnings of about $93 the indicated central value would be the same 750. (The higher earnings are offset by the higher interest divisor.)

      These calculations, for what they are worth, suggest that the Dow at its recent low level of 627 was undervalued by about 15 percent.”

  9. John D.

    Hello Mr. Brock,

    How were you able to create a “forty-year trend channel” or what source did you use? Thank you for your commentary and website.

    Very Respectfully,
    John

    Tony, this forty-year trend channel suggests the market is ahead of itself but I don’t see how you got 400.

Your Thoughts?