Can you apply the Buffett indicator in the Indian stock market?
It is used worldwide, particularly in developed economies.
But what the heck is Buffett indicator?
It is an indicator used by Buffett to get an overall feel of the valuation of a US stock whether they are undervalued or overvalued.
Let's say,
A= Total market cap. of all country's stocks
B= Country's GDP
E.g. in 2018 for India, A was $2.3T and B was $2.6T so Buffett Indication = A/B we get 88%
The logic behind the indicator is that GDP gives a ground-level view of the economy whereas market cap. is very subjective.
By anchoring the market cap. to GDP, we can objectively assess whether valuations are reasonable or not.
The higher the value of it, the higher the chances are market in overvalued territory.
In India, however, this indicator has some limitations:
A huge sector of the Indian economy like agriculture (15% of Indian GDP) is underrepresented during its calculation.
Many successful companies and SMEs are not listed on the stock exchange.
It might be best for western countries where primary markets are very well developed.
It remains imperfect for developing countries like India.