Credit: Shutterstock photoExperts all seem to agree that the stock market is overvalued from a fundamental perspective. This conclusion can be reached based on almost any fundamental ratio.
The price-to-earnings (P/E) ratio of the S&P 500, for example, is about 24.5. This is about 67% above its long-term average of 14.7.
Nobel Prize-winning economist Robert Shiller's cyclically adjusted P/E ratio is also warning the market is overvalued. At 30.2, this ratio is more than 85% above its long-term average of 16.1.
Shiller is well known for calling market tops. He called the top in 2000, just before the dot-com bubble burst, and also predicted a crash in the housing market before prices collapsed in 2007. (You could say Shiller literally wrote the book on market bubbles; he's the author of the best-seller "Irrational Exuberance," which examines and analyzes centuries of speculative manias within the marketplace.)
In a recent interview with business outlet Quartz, Shiller discussed another indicator he's been developing that he believes could be important right now -- the Valuation Confidence Index, which measures the percent of the population who think that the market is not too high.
For years, Shiller has been surveying individual and institutional investors about the stock market. The first question in the survey, which I've reprinted below, is about valuation:
Stock prices in the United States, when compared with measures of true fundamental value or sensible investment value, are:
[CIRCLE ONE NUMBER]
1. Too low. 2. Too high. 3. About right. 4. Do not know.
Shiller then takes the number of respondents who chose 1 (too low) or 3 (about right) and divides it by the total number of people who chose either 1, 2 or 3. The resulting percentage is Shiller's Valuation Confidence Index.
Right now, according to Shiller, "Valuation confidence is at the lowest it's been since around 2000. In other words, people think the market is highly valued. They don't have to look at CAPE. People think it. I know that. Both individual and institutional investors. We are in a time of mistrust of the market."
Let me repeat that: Since 1989, when Shiller began tracking this measure, the only time it's been lower was in 2000.
That is a signal worth paying attention to. If investors are worried that the stock market is overvalued, they are likely to see -- and respond quickly to -- the first sign of trouble.
Of course, this type of indicator isn't a precise timing tool. But it is another reason to remain cautious about the market. It's also why it's important to use a strategy that's designed to minimize risks -- like the one we use in my premium newsletter, Maximum Income .
The Perfect Strategy For This Market
For those who are unfamiliar, our strategy involves selling options, specifically covered call options.
A call option gives the buyer the right -- but not the obligation -- to buy a stock from the call seller if it's trading above a specified price before a specified date.
When you sell a call option, you have the obligation to sell a particular stock at a specified price at a set time in the future. When you already own the underlying stock (100 shares for every contract), it becomes a "covered" call.
And this is how we earn our income.
A covered call strategy requires you to sell call options on a stock you just bought or already own. When you sell a call, you generate what I call "Instant Income," also known as a premium, upfront.
Since you own the stock, you participate in the upside of the stock and the income can offset some of the downside risk. I think that's especially important in an "overvalued" market like this one.
Simply put, it's the closest thing to a win-win in investing.
Covered calls can be a profitable strategy in any market environment. When interest rates are low, covered calls can provide the income that fixed-income investments just can't deliver. And when interest rates rise, calls actually become more valuable. This means covered calls can provide income for life... as long as you find the right stocks to trade.
[For more details on covered calls, I recommend my special presentation. You can access it here .]
Generally speaking, it's a good idea to use covered calls on stocks that are stable and relatively predictable. That's why I recently recommended a trade on industrial giant General Electric (NYSE: GE ) .
A Peek At Our Latest Trade
GE is a company that has gone through several transformations in the past few decades.
Throughout the 1990s, GE completed a number of acquisitions and became a broadly diversified business. To help customers finance purchases, the company became an aggressive lender, which led to serious problems in 2008 and forced GE to refocus its business. The company is now a slow-growth conglomerate and is a much safer investment than it was even a year ago.
GE is no longer a growth story like it was in the 1990s. It's no longer a highly leveraged financial company that generates large amounts of cash flow like it was before the 2008 bear market. GE is now a stodgy income stock.
At recent prices around $23.80, the stock offers a yield of about 4%. If you were to buy 100 shares of this company before September 15 (the ex-dividend date), then you'll receive a quarterly dividend payment of $0.24 per share.
But by using our Maximum Income strategy, you'll get paid even more. In fact, based on the details of our recent covered call trade, you'll earn an additional 5.5% in "Instant Income." That already beats what most GE shareholders earn in a year. If the stock rises to the strike price outlined in our trade, we'll simply sell the stock for a quick profit. If not, we'll likely continue making trades like this again and again -- earning more and more income in the process.
As I mentioned earlier, trades like this are a win-win for investors: regardless of what happens, you're likely to come out ahead. It's the closest thing I can think of as a "no brainer" for today's market. If you'd like to learn more about how these trades work -- and how you can pocket up to $3,000 a month in extra income -- go here now .
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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
