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Valuing Wall Street: Protecting Wealth in Turbulent Markets, by Andrew Smithers, Stephen Wright
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James Tobin's celebrated q ratio has predicted every major market top in the last century. Valuing Wall Street is the first comprehensive guide to apply this ratio to today's stock market -- and find Wall Street dangerously overvalued! It shows the reader how to calculate q, use it to predict when the market will plunge, and take protective steps before it's too late.
More than just a guide to q, however, Valuing Wall Street is a complete guidebook for protecting profits in turbulent markets. It provides timely information for all investors with too much of their savings tied up in equities, discussing:
-- How to decide which stocks to buy -- and when to stay on the sidelines
-- Which investments rate highest as solid alternatives to stocks
-- Best strategies for hanging on to gains during volatile times
- Sales Rank: #911199 in Books
- Published on: 2000-03-24
- Original language: English
- Number of items: 1
- Dimensions: 1.40" h x 6.32" w x 9.31" l,
- Binding: Hardcover
- 352 pages
Amazon.com Review
"Most books about the stock market tell you how to make money. This one ... will show you how to avoid losing it," begins this smart, blunt, cautionary tale based on Nobel laureate James Tobin's 1969 "q ratio," which posits, among other things, that no matter how bullish a market gets, it's bound to snap back into place at some point--and those who don't brace for the reversal will feel its sting. The authors, one a prominent asset-allocation adviser and the other a former head of macroeconomic forecasting for the Bank of England, warn that it's only a matter of time before the overexuberant market of the early 21st-century topples like its counterparts in 1929 and 1968. Here they set out to show why and how this will happen--as well as to tell stockholders what they should and should not do if they want to emerge intact.
After making a cogent new argument in defense of the still-controversial q ratio, the authors show how it plays into principles of stock-market risk and return, how it has determined the value of Wall Street in the past and will continue to do so, and how to apply it as a practical investing tool. They do a neat job of parsing the good and bad news about stocks as a sound investment for the future, and of what to do and not do with one's money come the inevitable bear market. From there, they get down to the nitty-gritty of valuing the stock market, providing four key tests for any indicator of value and explaining how to fold in such factors as the dividend yield, the price-earnings ratio, the adjusted price-earnings multiple, yield ratios, and yield differences. They wrap up with a look at what they call "the q debate" among both economists and stockbrokers, and finally, they apply the q ratio specifically to the U.S. economy, rebuking Alan Greenspan's Federal Reserve for its role in what they see as the coming U.S. bubble burst.
With its plain English, helpful illustrated charts, vivid examples from history, and even the occasional employment of the likes of Alice in Wonderland to prove its points, Valuing Wall Street should be accessible to those with a working understanding of the market and economic principles. All told, this book is not so much a how-to as it is a theoretical forecast whose tidings investors might want heed as we near what Smithers and Wright warn are rough years ahead. --Timothy Murphy
Review
Analysts also believe the debate over stock market valuation will intensify in the weeks ahead thanks to the recent publication of two highly respected books that both forecast a coming bear market.
From the Back Cover
A Reality Check on Today's Stock MarketIncluding Easy-to-Follow Strategies for Protecting Your Assets.
"Wonderfully readable, this book's clear, direct logic borrows on Jim Tobin's concept of q to explain why the marvelous past is not only not prologue to perpetually higher and higher market valuations, but is the probable cuase of future returns being so small at best, and at worst, perhaps suddenly reversed."
Charles Ellis, Managing Partner, Greenwich Associates
"Andrew Smithers is one of the five best, most dispassionate, erudite analysts in the world. This is a book to read and chew on."
Barton Biggs, Global Investment Strategist, Morgan Stanley Dean Witter
"It takes a brave man to forecast the movement of the markets. But Andrew Smithers and Stephen Wright are the Cassandras of the New York Stock Exchange. Armed with an analysis based on q, the ratio between stock market prices and underlying capital value, they predict that the NYSE is facing a severe fall. They make their case clearly and forcefully. Investors should read and beware."
Professor Charles Goodhart, Monetary Policy Committee, Bank of England
"Andrew Smithers & Stephen Wright make a powerful economic argument that the New York stock market is 'wildly overpriced,' with shares 'at ridiculous levels,' calculated by them using Nobel Laureate James Tobin's q, or the ratio of share price to net worth of companies, at 1 1/2 times."
Professor Charles Kindleberger, Massachusetts Institute of Technology
"Smithers and Wright provide a guiding principle, based on theory, common sense and history, that should help all investorsprofessional or amateurachieve better long run returns at much lower risk. The authors are currently serious bears; to pay attention to their case now could be the reader's most important financial decision."
Jeremy Grantham, Grantham, Mayo, Van Otterloo
Most helpful customer reviews
110 of 110 people found the following review helpful.
Much better than Shiller's new book
By David Roth
Smithers and Wright have written a very compelling indictment of today's stock prices. They argue that prices are way too high by historical standards, and exhort us to SELL. This is the same conclusion reached by Yale Professor Robert Shiller in his new book "Irrational Exuberance"; however, Smithers and Wright are much more convincing.
Smithers and Wright use as a measure of valuation for stocks a statistic called "q" (or Tobin's q, named after Nobel laureate and Shiller colleague James Tobin). q represents the value of equities divided by the cost of replacing the underlying capital stock. So you might expect the stock market to be worth somewhere near q=1, where companies are worth what it cost to build them; historically, the average value of q is near 1.
Smithers and Wright show that changes in q and equity prices are almost identical, since the cost of replacing the capital stock changes so little. They also show that high values of q are associated with terrible subsequent returns. They show how a simple strategy of selling when q rises to 1.5 and buying again when q falls below 1 * trounces * a buy-and-hold strategy. And they top it all off by showing that today's level of q, around 2.5, is unprecedented. So SELL!
The reason the book is so much better than Shiller's is that Smithers and Wright give a coherent, fact- and theory-based argument for why q should be used to value stocks, not just P/E, stock earnings yield compared to bond earnings yield, or other popular measures. Shiller just used P/E and told us to sell due to today's high P/E; he did not even consider, not to mention try to debunk, other theories of valuation.
Smithers and Wright point out, for example, that in the early '30s, P/E was very high due to the depressed depression-era profits of companies, but that q was very low, providing the buy signal of a lifetime that would have been missed by looking at P/E alone.
The only negatives of this otherwise excellent book are: (1) Like most finance books, this one would gain from adding computations of after-tax returns, which shift us away from fancy trading strategies and towards buy-and-hold in taxable accounts. (2) They should admit that there are significant differences between today's economy and economies of the past. For example, in an economy such as ours where intellectual property is paramount and provides barriers to entry, firms' values may stay above the cost of replacing capital.
14 of 14 people found the following review helpful.
Entertaining, Readable, and Thought Provoking
By A Customer
This is far from the dry boring stuff that is usually written on finance. The authors produce an extremely convincing and logical argument that the stock market is overvalued. This is based on comparing Tobin's q to its long term average. Tobin's q is based on flow of funds data and hence overcomes the problem of looking at corporate data. They also discuss other valuation techniques and explain their strengths and weaknesses. The book is full of interesting insights. I particularly like an example they use to demonstrate the power of compund interest. A gem of a book and well worth reading what ever your view on the state of world equity market.
13 of 13 people found the following review helpful.
Buy and hold or buy and sell?
By misterbeets
Although there's plenty of evidence one cannot time the market short term--just look at managed portfolios compared to major stock indexes--that does not mean it's not possible over much longer cycles. The usual metric, P/E ratio, for measuring these cycles is occasionally wrong, like once or twice a century, e.g. if earnings are unusually small, as in the Depression. Better to use something similar to price-to-book value, "q". Averaging over all companies, and looking back over the last hundred years of market data, q tells you when stocks are overpriced more reliably than P/E. If you buy stocks at below average q and sell them when q is above average, you'll outperform a buy and hold strategy.
Of course, people already ignoring P/E are unlikely to be swayed by a refinement. That's why the second aspect of this book is important. It's one of few books that tells you *not* to own stocks now. It presents historical data--someone unfortunate enough to have entered the market just before the 1929 crash would have had to wait 25 years to catch up with an all bond portfolio--to show how bad an investment stocks can be.
Holding bonds until P/E returns to single digits, where it was at the start of the bull market in 1982, will never appeal to some people, but that's this book's advice in a nutshell.
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