Is the Buffett Indicator Broken? Behind the 217% Reading: Valuation Reset or Bubble Inflation?

TradingKey - The so-called “Buffett Indicator” — the ratio of total U.S. stock market capitalization to gross domestic product (GDP) — is flashing a strong warning signal. It has now climbed to 217%, reaching an all-time high.

Warren Buffett once said that approaching the 200% threshold is “playing with fire.”

Introduced by Buffett in 2001, this metric is widely regarded as the single best measure of overall stock market valuation. He noted at the time that a ratio between 75% and 90% would be reasonable, while anything above 120% suggests the market is overvalued.

Historical data shows that during the peak of the dot-com bubble in 2000 and the pandemic-fueled rally in 2021, the indicator reached 150% and 190%, respectively. Today’s reading of 217% pushes the market into uncharted territory.

This surge has been largely driven by mega-cap tech companies, whose massive investments in artificial intelligence have led to sky-high price-to-earnings ratios, propelling stock prices far beyond the pace of overall economic growth. Other valuation metrics confirm this trend: the S&P 500’s price-to-sales ratio recently hit 3.33, a record high, surpassing the dot-com peak of 2.27.

Some argue that as the U.S. economy shifts toward technology, data, and intellectual property, traditional GDP calculations may understate true economic value — making higher valuations somewhat justifiable. However, this debate hasn’t diminished growing concerns about risk.

Notably, Buffett himself has not publicly commented on the indicator in recent years, but his actions speak volumes. Berkshire Hathaway’s Q2 earnings report revealed a cash pile of $344.1 billion — a record high — and the company has been a net seller of U.S. equities for the 11th consecutive quarter, signaling deep caution toward current market valuations.

Whether the Buffett Indicator has become outdated in a new era or not, the numbers demand attention. A market value-to-GDP ratio of 217% — higher than at any point in history — is, in itself, a red flag worth heeding.