These 3 indicators show that the music is about to stop. When it does, make sure you’re not without a chair

There are several indicators that I would often (not that often but when I remember, I will) look at to get a feel of where we are in the market cycle and to prepare for what may happen next. Of course, I am not saying about timing the market. What I'm trying to say is that if I see that the sky is filled with dark clouds, I would make sure I bring an umbrella with me. It doesn’t matter whether it would rain in the end, but if it does, I know I would not get wet.

Today, I decided to look at those indicators and it looks like things are getting worse compared to the last time I looked at them (last month). These indicators are meant for US but as we know with our globalized and interconnected economies, all of us would be impacted if things go bad.

The Shiller PE (CAPE) Ratio for the S&P 500

Price earnings ratio is based on average inflation-adjusted earnings from the previous 10 years, known as the Cyclically Adjusted PE Ratio (CAPE Ratio), Shiller PE Ratio, or PE 10.

Chart from multpi

As of 6th Oct 2017, we are at 31.11, slightly above the peak which occurred just before Black Tuesday. We are already well above the value before the 2008 recession (Highest value recorded was 44.19 before the Dot Com bubble burst).

Buffett Indicator: Corporate Equities to GDP

Market Cap to GDP is a long-term valuation indicator that has become popular in recent years, thanks to Warren Buffett. Back in 2001 he remarked in a Fortune Magazine interview that "it is probably the best single measure of where valuations stand at any given moment."

Chart from Advisor Perspectives 

A value of over 100% is a sign that things are overvalued

VOLATILITY S&P 500

The VOLATILITY S&P 500 recently broke its all time low. Currently it is standing at 9.65. To me this is like the calm before the storm. From the chart, we can see that whenever it goes below 10, the next thing it would do is to go up which would mean a decline in the market.

 Chart from Yahoo Finance

S&P 500

Not something new. S&P 500 is currently trading at historical high above 2500. I wouldn't call this an indicator though but just a record of where we are right now.

Chart from Yahoo Finance

What should we do then?

All these indications should give us an idea where we currently stand in the economic cycle. I am not trying to say that we should start encashing all our positions and purchase gold and store in our coffer but to have a concrete plan of what we should do in the situation where the market starts to turn sour. Here are a few things I would do:

Have a plan for my exit strategy
As the saying goes "If you fail to plan, you plan to fail". Never leave deciding your exit strategy to the time you want to sell. The stress and emotion will cloud your judgement. In fact, it is good to already have an exit strategy right after you enter a position. And follow that plan when the time comes. Otherwise what is a plan for if you don't follow it, right?

Allocate more cash in my portfolio
Perhaps sell off a portion of the portfolio and keep the cash. Or inject lesser fresh capital moving forward. Keep the ammunition so that when the dust settles, you will have the firepower to ride the next uptrend.

Hedge my portfolio
Increase positions in instruments that are deemed as safe haven during a crash. Gold prices skyrocketed since the 2008 recession. Perhaps that could be my consideration for hedging. If you can't afford to buy gold, I think a gold ETF or gold mine ETF would be good enough. 


No one can predict exactly when the next crisis would come. It could be next month or a few years down the road. However, it is crucial that we prepare for it. If you look at those charts above, you can see from the history that when things turn bad, it can happen very quickly. You wouldn't want to be the one without a chair when the music stops.




Disclaimer: The information contained herein is not intended to be a source of advice or credit analysis with respect to the material presented, and the information and/or documents contained in this article do not constitute investment advice. Please perform your own due diligence or seek professional advice from your own investment agents.