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STOCK MARKET IS OVERBOUGHT. TOO LATE TO INVEST!
There’s no need to explain what a stock market collapse means. Possibility of a collapse is a source of tensity for a trader. Traders are afraid of it and hope this will never happen again. But it always does. Stock market crises are taking place quite often. The problem is how to estimate when this crisis will happen again. How to forecast when a stock market bubble is ready to blow up? It’s very important to estimate
moment of a collapse.
We will try to do it by using instruments based on regression model, such as CAPM. CAPM is a well-known regression model that is able to estimate asset risk in comparison with stock market index. CAPM model is an equilibrium model. It estimates stock market movement after market loses its balance. CAPM determines balance conditions.
To test this system it is essential to select a country with long financial history. The history should comprise stock market bubbles and collapses. In this example we choose USA. And we select main well-known indices, such as blue chips Dow Jones, technology-laced Nasdaq Composite and broader Standard and Poor’s 500 Index.
The Dow Jones Industrial Average is main American index. It’s oldest and single most watched index in world. DJIA is a price-weighted average of 30 significant stocks traded on New York Stock Exchange and Nasdaq. Charles Dow invented DJIA back in 1896. The DJIA includes blue chips companies like General Electric, Disney, Exxon, Microsoft and others.
The Nasdaq Composite index is market value weighted index of all common stocks listed on Nasdaq. The Nasdaq Composite dates back to 1971, when Nasdaq exchange was first formalized. The Nasdaq Composite Index measures all listed Nasdaq domestic and international based common type stocks. Today Nasdaq Composite includes over 4,000 companies, making it one of most widely followed and quoted major market indices. Unlike DJIA, Nasdaq is market value-weighted, so it takes into account total market capitalization of companies it tracks and not just their share prices.
The Standard and Poor’s 500 Index consists of 500 stocks chosen for market size, liquidity, and industry group representation. It is a market value weighted index, with each stock's weight in index proportionate to its market value. S&P 500 consists of 400 industrial companies, 20 transportation, and 40 financial and 40 utilities companies. The S&P 500 is one of most commonly used benchmarks of overall stock market.
We have to compare stock market indices with Gross Domestic Product, to estimate if market oversold or overbought. We choose as a dependent variable stock market index, and as an independent variable GDP. These two variables can be presented in percent as a difference between first date and settlement date divide by its first year value. Such variable allow us to compare different indices in single country and indices of different countries.
We’ll explain why we choose GDP as a dependent variable. Our choice based on main stock market risk concerned with marginability. Stock market doesn’t produce new money, its just redistribute existing money. As a result of this stock market yield should be limited by economy efficiency. When marginability is violated, when stock market rate of growth exceed economy rate of growth and stock market become very risky.
